Building on yesterday's discussion of the lack of an integrated banking system and credible lender of last resort in Europe, UBS appears to have gone thermonuclear this morning. Their lengthy article 'What If Greece Goes?' outlines the contagion risk from an 'orderly' exit as markets, international trading companies, and bank depositors will all anticipate the consequences likely resulting in economic disorder. Their remains a great deal of complacency about the ability of firewalls to prevent this - but as they note - should bank runs begin, even a pan-European deposit guarantee scheme will not stop rational depositors extending bank runs instead of gambling on the probability of policy-maker actions. Laying out Greece's options (renegotiate austerity or default), UBS summarizes the situation more profoundly: "Integrate Or Die" as without a Euro confederation (in their eyes), continental Europe will cry 'havoc' once again.
Europe's game of chicken, all of which is geared to one simple thing - to spook the Greeks into voting for pro-bailout powers, and against Syriza - has now officially entered the Twilight Zone. In the latest episode of what can now simply be described as the world's most entertaining yet terrifying mutual assured destruction showdown, because should Greece leave, the destruction, at least in the short-term, will impact both Europe and Greece, although Greece will recover far, far faster as the standard of living there has already been crushed (which incidentally is the primary reason why Europe has lost control over the situation: without the carrot of welfare state promises, a Ponzi regime is meaningless), we learn that on Monday a Eurogroup Working Group held a teleconference in which officials "agreed to prepare for individual contingency plans if and when Greece exits." Here is the problem - the contingency plan can be summarized in one word: panic. Because absent a full blown coordinated monetary intervention, Europe's individual states are completely powerless, and they know it. Sadly, and this is where the farce and charade are complete, the Greek people know it too. As a result, this little adventure, leaked subsequently to Reuters, loses all utility. But we expect many more such escalations from Europe: after all we have nearly a full month before June 17: plenty of time to crush the market in order to get a reaction out of the Greek voters, European politicians and ECB bankers, just as Citigroup suggested. Only issue is, the more Greek voters are prodded into a corner, the more likely they are to simply snap.
We have already posted this fantastic timelapse in the past on various occasions, but it is always worth putting things in Europe in their proper context, such as this 1000 years of "Old World" history summarized in 3 minutes. Many say the European experiment will end if Greece votes the 'wrong' way on June 17. Somehow, after watching the below, we doubt it.
Whether it is the EU running to the G-20, nations in Asia, the IMF or Spain and Italy and their brethren calling for Eurobonds the distinction is easily made; you pay or you pay or you pay because I cannot. That is the cry in the wilderness as politely, very politely, quite politely everyone says, “No thank you.” The curtain is going down on the show and the normal pleas are being made to keep the spectacle in operation but the pocketbooks are closed and Germany and the rest are not going to bet the family farm when the final act draws nigh. The Elves in the boulders cackle and the “invisible people” move on and sigh as the ending of one more chapter is inscribed in the Book of Life.
Following the morning in Europe, a generally risk-off tone is observed, with stock futures sitting just above session lows and the German Schatz auction resulting in record low yields. Some of the risk-averse moves were noted following unconfirmed market talk that a troubled Dutch housing association may be pressed towards bankruptcy, however this seems to be linked towards an article concerning the Dutch central bank probing into the sale of derivatives to the housing group Vestia. Nonetheless, the long end of the Dutch curve remains well-bid and European 10-yr government bond yield spreads are seen generally wider across the board. Releases from the UK have come under particular focus; the BoE minutes showed an alongside-expectations vote of 8-1 to keep QE on hold. With some analysts estimating more of a lean towards further asset purchases, the initial reaction was strength in the GBP currency, but countering this effect was the parallel release of UK retail sales, with the monthly reading showing the sharpest decline since January 2010. Additionally, it was noted that several members of the board saw further QE as a finely balanced decision, placing GBP/USD back on a downward trajectory and briefly below 1.5700. Elsewhere in foreign exchange, current sentiment is reflected in EUR/USD, printing multi-month lows earlier in the session of 1.2615, with the USD index at 20-month highs which in turn has weighed on commodities.
With only new home sales (which we actually report as opposed to NAR goalseeked marketing materials) to hit the docket in the US, the only newsflow that matters again will be that coming out of Europe, which is holding an informal summit. As BofA reminds us, the summit was originally set up to discuss growth. Now, it is there for Grexit damage control. Today's discussions will focus on the use of existing tools for supporting short-term growth. Spain and Greece are likely to be on the agenda as well. On Greece, although discussions should focus on the pros and cons of a Greek exit, we believe there will be no communiqué other than to mention that Greece should stay in the euro area and implement the programme. On Spain, discussions will likely focus on the banking sector. The discussion will likely be around using the EFSF (or its successor ESM) directly to fund the banking sector, a step Germany opposed in the past. Overall, we do not expect many decisions from the summit. Rather, we expect a communiqué about what was officially discussed, and a date for a later rendezvous. In other words, "investors are likely to be let down by today's summit" (that was BofA's assessment). Also let down, were markets in the overnight session when the BOJ, contrary to some expectations, left its QE program unchanged. As usual keep an eye on headlines: record EUR interest means violent short covering squeezes if the algos sense a hint of optimism in any red flashing text (if only briefly, as the long-term outlook for the situation is quite hopeless).
- Rajoy to ask for ECB assistance, according to reports (Sharecast)
- Bundesbank Suggests Greek Exit From Euro Would Be Manageable (Bloomberg)
- Unemployed Burn as Fed Fiddles in Debate Over Natural Rate (Bloomberg)
- Regulators, investors turn up heat over Facebook IPO (Reuters)
- China to boost private energy investment to bolster economy (Reuters)
- OECD fears euro woe to snap brittle world recovery (Reuters)
- China slowdown threatens Australia - World Bank (Herald Sun)
- Guessing game begins over next Treasury chief (Reuters)
- Italians spurn main parties in local polls (FT)
- A fragile Europe must change fast (FT)
- Spain to outline Bankia plan, may announce bailout size (Reuters)
- China Should Adjust Policy Early - Government Researcher (WSJ)
A quick look at the Fresh-Start Greek Government Bond (GGB2) complex shows that as of this morning it has tumbled to fresh all time lows across the curve, and now trades at a more than 50% loss to the March PSI conversion price. The reason for this dump is not so much on fear of a Greek exit, but once again a reflection of precisely what we expected would happen, and as explained in our January Subordination 101 post. Last week, the fact that a PSI hold out, holding English-law bonds managed to get par recovery while all the other lemmings have so far eaten a nearly 90% loss, has sparked a realization among all the other hold outs that since they have covenant protection, they should all demand the same treatment. And indeed, another one has stepped up, only this time not a holder demanding par maturity paydown, but one who has read their bond indenture and was delighted to find the words "negative pledge." As Bloomberg reports "a holder of Greek bonds that weren’t settled in the biggest-ever debt restructuring said he’ll demand immediate payment unless the government posts collateral against his investment. Rolf Koch, a private investor who says he holds 500,000 Swiss francs ($528,000) of the notes due in July 2013, argued that he’s entitled to equal treatment with Finland, which made getting collateral a condition of contributing to Greece’s second bailout. He wrote to the paying agent, Credit Suisse Group AG, invoking the bonds’ so-called negative-pledge clause, according to the text of a letter seen by Bloomberg News."
The full set of DTCC data is in (that is the repository for reporting CDS data) and reading between the lines provides us with some significant color on what was occurring at JPM's CIO office. First things first, JPM has derisked some/all of the tranche position but remains (we suspect) long IG9 credit hedged by a plethora of liquid on-the-run credit hedges. There appears to have been a delta-neutral HY short credit unwind (in mid-Feb) but no HY9 tranche positioning and nothing since then. However, when we look into IG9 gross and net notionals between tranched (the tail-risk hedge we believe they put on originally) and UnTranched (the index market where the whale managed to delta of the tail-risk hedge) the story becomes both confirming of our hunches and also very concerning. The charts below tell the story of an early unwind of the Fed-induced-failure tail-risk hedge but an arrogant momentum chaser that left the massive long credit index position (hedge of a hedge) that had been the cause of dislocations in the Index-arb business (that other media entities have focused on) flapping into and after LTRO2 into around early-to-mid April (when we are sure Jamie got the call). The changes in gross notional suggest a $120bn tranche position - which adjusted for leverage and the unhedged 'hedge' left on through March adds up to a $2.5bn loss. Add to this the guesstimate cost of 10% of notional (based on mezz price moves) to unwind the remaining tranche position ($5.5bn further losses) and the total could be around $8bn loss on this mess. However, there has been huge 'technical flow' in almost every liquid credit index (IG18, HY18, HYG, and JNK for example) which would have reduced the loss - though left considerable basis risk (hedging the loss with an imperfect hedge). Perhaps given the tranche unwind last week (and the skew compression), the rally in credit indices this week reflects some more unwinds of the tail-risk's hedge and a slowing of the technicals in the market - leaving just weak fundamentals - though we note IG9 index notionals did not shift much meaning they will likely try and unwind this position against the random market hedges they picked up in the last month (leaving huge basis risks for anyone who cares to press).
Just when one thought it was safe to come out of hiding from under the school desk after the latest nuclear bomb drill (because Europe once again plans on recycling the Euro bond gambit - just like it did in 2011 - so all shall be well), here comes David Rosenberg carrying the launch codes, and setting off the mushroom cloud.
There’s been a lot of excitement in the past year over the rise of North American oil production and the promise of increased oil production across the whole of the Americas in the years to come. National security experts and other geo-political observers have waxed poetic at the thought of this emerging, hemispheric strength in energy supply. What’s less discussed, however, is the negligible effect this supply swing is having on lowering the price of oil, due to the fact that, combined with OPEC production, aggregate global production remains mostly flat. But there’s another component to this new belief in the changing global landscape for oil: the dawning awareness that OPEC’s power has finally gone into decline. You can read the celebration of OPEC’s waning in power in practically every publication from Foreign Policy to various political blogs and op-eds.
According to some estimates, there are currently about 500 hedge funds in the world with AUM over $100 million. This means that roughly half of these asset managers collected performance and management fees for one simple task: to hold AAPL stock. According to the latest just released Hedge Fund Tracker from Goldman Sachs, a record high number of hedge funds, or 226, were long AAPL stock as of March 31, just days ahead of its all time highs, in what can only be described as the world's biggest hedge fund hotel (California). Because the only thing that is roughly comparable to the chart of the recently parabolic move higher in the AAPL stock is the number of hedge funds holders: 216 at the end of 2011, 209 at the end of Q3, 181 at the end of Q2, 173 at the end of Q1 2011, and so on. And while they may all be long the stock for their own "fundamental" reasons, the reality is that whenever there is a scramble for safety, on margin calls or simply due to general Risk Off behavior, it is the winners that would get sold, as selling beget selling, and eventually liquidations. Only in this case, 226 hedge funds all have the same winner. So far the AAPL drop has been relatively benign, not least of all because the stock is the NASDAQ, which just happens to be the growth frontrunning of the 2012 stock market. But what happens if the Fed continues to push off the NEW QE announcement: just how much of a general collateral redemption onslaught can the said hotel withstand before its tenants all scramble to leave at the very same time?