Why The Sudden Surge In Fixed Income Vol May Have Serious Consequences For The Market
From Peter Tchir of TF Market Advisors
I guess I could try and analyze all the noise on Greece. What the Greek ministers are saying about asset sales. What the IMF is saying. What the EU is saying. What the ECB is saying. What private lenders are saying? So many moving pieces. So much fluff to sort through. So much that has been said and done before that hasn't worked. New terms for default, etc. In the end, all that I can think of is "All the king's horses, and all the king's men, couldn't put Humpty Dumpty together again". Maybe that is far too simplistic, but it no longer seems to me that anything can be done with Greece.
Can the rest of the market be saved? It seems so. The ECB and China seem to have the will to save the rest or at least scare the market into believing they can. The volatility is becoming at least a little scary. The S&P is back to moving 1% or more daily, and sometimes travelling a much longer distance. S&P futures have already moved about 3% already today - down 1.5% followed by a 1.5% bounce and the NYSE isn't even open yet. The credit markets are hitting air pockets. It looks like SOVX completely broke down for periods of time yesterday where bid/offer widened, and in spite of that, the index moved on no trades. For a brief period this morning, that looked like it affected MAIN as well. So far U.S. credit markets have been far more stable and the technicals seem better, though I'm not sure how true that would have been if people were trading IG when Main went to 127 bid earlier. Main is back to 120. That is a very large swing.
This heightened volatility needs to subside soon, or we will see weakness in the market as investors (particularly hedge funds) are forced to shrink their positions because they do not (cannot) tolerate the P&L volatility from these sorts of moves. Main traded in a 10 bp range (95.75 to 105.75) from March 20th until June 8th. Almost 3 months and the entire range was 10 bps, and most of the time it traded in a tighter band. Today it has traded in a 7 bp range. That level of volatility is unsustainable, but even if we continue at the pace of the past couple of weeks, investors will have to scale back their positions as the only way to manage their P&L. We may continue the bounce, but without real evidence of some new plan, I think the upside is credit is very limited short term.
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