Lloyds

Here is the kneejerk Wall Street response to the key event of the day. Funny how the Italians think it was a good auction and everyone else kinda sorta disagrees.

While Draghi somewhat shut the door on the ECB being the lender of last resort today, there appears to be a sucker-of-last-resort where Dim Sum bonds (offshore/HK Yuan-denominated bonds) have seen issuance almost triple in the first 11 months of the year. The WSJ is reporting that 76 entities issued CNY99.1bn YTD, according to the Hong Kong Monetary Authority. Interestingly, the biggest growth in the second half of the year has been from European firms who are unable to raise funds economically due to the crisis of confidence at home. Bloomberg notes BMW and Lloyds as two recent issuers with the latter managing to price CNY-denominated 3Y debt at 3.6% yield against comparable EUR-denominated debt at 5.3% - quite a saving if you're willing to take the currency risk (or looking for non-Euro, non-USD diversification) as a corporate Treasurer (or desperate for the money). But for the bulk of Chinese issuers it would seem evident that the Dim Sum investors are perhaps a little too eager to be lending their Yuan, and therefore not being appropriately compensated for credit risk concerns (even with the implicit FX revaluation bet).

This fear is even more prescient when, according to Bloomberg, one considers that 60% of Asia's fastest growing bond market lack any of the standard leverage covenant restrictions (protection) that Western bondholders are used to. And just to add some more fuel to the rising yield fire of these bonds, Bloomberg just reported that eager bondholders are more than willing (and blind to the risks) to accept one-off payments from issuers in order to accept significant covenant concessions (completely disregarding the credit risks through time). Our Dim Sum index has seen average yields jump a significant 70bps to 3.31% since mid-September leading us to raise concerns that this market, on which ETFs are now being created, is worryingly exposed to both a systemic Chinese credit crunch and idiosyncratic releveraging even if managers view Dim Sum as more of a currency play.

All you need to read.

Last Wednesday we put up the following blurb: "Five months ago, when Italian yields were still tame in the 3% ballpark, and not 7% where they are today, we suggested that based on trading patterns and overall volume in Goldman's dark pool, Italy may be about to experience a "Greek episode." Days later we were proven right as Italian yields and spreads started their relentless move wider, with only those who had access to Sigma X being able to get an advance whiff of what was about to happen. Well today we are happy to report that the German diversion may have worked: the truth is that nobody appears to care about Germany. Instead what everyone does seem to care about, is the nation with the greatest combined debt (government, corporate and household) to GDP in the world. Yup. The UK." Following that, a quick Twitter update from this morning indicated something was again going on with the UK from the perspective of the world's most connected insiders: "UK's LLOYDS and RBS top of most active on Sigma X this morning." Sure enough, here's Fitch with what may well be a precursor to the bond vigilantes finally focusing their attention on the last, latest and greatest AAA credit.

• FITCH: UK GOVT MAY BE MOST INDEBTED OF AAA SOVEREIGNS EX U.S. -BBG
  
• FITCH: NEW UK FISCAL VIEWS 'SIGNIFICANT DETERIORATION' VS MARCH - BBG
  
• And the punchline: "the capacity of UK public finances to absorb adverse economic and financial shocks that would result in yet higher public debt while retaining its 'AAA' status has largely been exhausted"

And cue the imminent downgrade rumors - and ensuing safe-haven outflows to TSYs.

Earlier today Germany tried to sell €6 billion of 10 Year bunds. It "sold" €3.644 at a 1.98% yield. Which meant the German debt agency had to retain, i.e., not sell,  the 39% balance, or €2.356 billion. Said otherwise the offering was a complete disaster and as Reuters points out, one of Germany's worst bond sales since the launch of the euro, and that much higher Bund yields are coming very soon to a neighborhood near you. The sale "prompted concerns the debt crisis was even beginning to threaten Berlin on Wednesday, with the Bundesbank forced to buy large amounts of the bonds to ensure the auction did not fail. The low yields offered on the 10-year paper deterred investors from the auction, especially because of growing concerns over the cost to Germany of the escalating crisis." So what was otherwise formerly sacrosanct has just become reviled: welcome to fiat's greatest hits. The resulting 10 Year yield chart should surprise nobody. As for next steps: first the UK, then Japan, and finally the US...

Today is a rerun of Tuesday when it was all about the horrible Spanish auction. Well, let's use a different adjective for what came out of Spain today: dreadful, atrocious, awful: all words used not by us but by Wall Street experts to describe what just happened (see below). To summarize: Spain sold €3.56 billion euros of a new ten-year benchmark bond, well below the €4 billion targeted. The average yield on the bond was 6.975 percent, the highest paid since 1997, and almost 2% higher compared to the 5.433% paid on October 20. The highest paid for a ten-year bond this year was on July 21 when it paid 5.986 percent. The bid-to-cover ratio, an indicator of investor demand, was 1.5: this compares to 1.76 a month ago, and 1.95 average of the last 6 10 year auctions. The result: Spain Bund spreads are at a record 499 and about to pass 500 bps: the level at which LCH hiked Italian bond margins, and is resulting in another round of rumor of an imminent Spanish bond margin hiked which in turn would lead to more selling of sovereign bonds both in Spain and everywhere else. The Spanish 2s10s has collapsed and is under triple digits for the first time in years: at this rate it may well invert in days. And speaking of everywhere else, French Bund spreads hit a record 202 earlier, a level which will be promptly taken out; Italian spread tightened modestly after the ECB stepped in with another brief intervention which will be promptly steamrolled. It has gotten so bad, the EFSF spread to Bunds also just hit an all time record - kiss the EFSF goodbye. Lastly, futures are at overnight lows or just over 1220. Looks like we will have another Risk Off day at least until Europe close.

loss-absorbing capital to levels specified by regulators. They’re doing this especially to hit the level of 9% core capital-as-a-percentage of risk-weighted assets that the regulators require as a response to the most recent stress tests. While actually selling loans and exposures would be one way to achieve this so-called “risk-weighted asset optimization”, it looks like many banks are actually just choosing to fiddle around with the internal, self-created risk models that both the current Basel II and the not-so-new-and-improved Basel III regulatory regimes allow them to use. Yes, these regulatory regimes allow the banks to decide, for themselves, how risky their loans are. Which of course then drives how much or how little loss-absorbing capital they must hold. Don’t worry, though, because the regulators approve the models on a yearly basis. And which banks have taken advantage of this so far?

BNP Paribas SA and Commerzbank AG (CBK) are unloading sovereign bonds at a loss, leading European lenders in a government-debt flight that threatens to exacerbate the region’s crisis.

BNP Paribas, France’s biggest bank, booked a loss of 812 million euros ($1 billion) in the past four months from reducing its holdings of European sovereign debt, while Commerzbank took losses as it cut its Greek, Irish, Italian, Portuguese and Spanish bonds by 22 percent to 13 billion euros this year.

• Financials received a boost after Societe Generale reported a decline in their exposure to PIIGS nations, together with positive corporate earnings from Lloyds Banking Group
• According to a government source, Greece’s two major parties have not reached a deal yet on coalition government. However, according to a minister, the Greek PM has said farewell at the cabinet meeting, and has told the cabinet that by tonight he will probably have settled the name of the new PM
• According to reports, Italy’s main opposition parties will abstain in today’s vote. Also, Italy's Northern League leader Bossi asked Berlusconi to resign
• Bank of Canada governor Carney said the BoC stands ready to reactivate its extraordinary liquidity facilities if needed, adding that European bank deleveraging could trigger sharp swings in global liquidity
• SNB’s Jordan said that CHF is overvalued, however he also commented that it would be wrong to engage in a competitive devaluation of the currency

While the market continues to look forward to the latest Eurosummit on Wednesday (which rumor is may be postponed once again) with mouth-gaping expectations, the truth is that Europe "may have already entered a recession" as Goldman predicted some weeks ago, a prediction which was confirmed by today's miserable manufacturing and services PMI numbers. From Goldman: "The Euro-zone flash composite PMI came in at 47.2 in October, down from 49.1 in September. The October reading is below consensus expectations, which pointed to a somewhat more modest drop to 48.8. The decline was registered in both manufacturing and services, though it was slightly more pronounced in the latter (Manufacturing: down from 48.5 to 47.3, Services: down from 48.8 to 47.2). The pace of the decline in the headline output component of the Composite PMI accelerated in October. With its sixth consecutive monthly decline, the composite PMI has reached its lowest reading since July 2009." This is bad, and it gets worse. As Reuters concludes: "The euro zone's debt crisis might already have pushed the bloc's economy back into recession, according to business surveys that showed China's economy taking a stride forward in October." So why is this an issue? Simple - as a reminder in a little noticed statement last week, S&P said it "would likely downgrade the credit ratings of France, Spain, Italy, Ireland and Portugal if the euro zone slips into another recession." Well there's you recession confirmation. So: where is the European bailout killing downgrade of France?

Better late .....here is all you need to read.

All you need to read.

Since one can not get a downgrade of a bank during market hours for fears of springing who knows what circuit breakers, Fitch had to wait until just after the market close to release its latest market surprise which consisted of a "watch negative" announcement on the following banks Barclays, BNP Paribas, Credit Suisse, Deutsche Bank, Goldman, Morgan Stanley; others it just slashed some by multiple notches, among which: Landesbank Berlin IDR downgraded to A+ from AA-; Lloyds Banking Group IDR downgraded to A from AA-; RBS IDR downgraded to A from AA-; and most importantly UBS IDR downgraded to A from A+. The reason for the action: "the ongoing Eurozone crisis continues to feed intense market speculation regarding the potential or bank recapitalisation schemes. Therefore for the near term the agency is maintaining a 'single A' range support rating floors for banks in its highest rated Eurozone countries." The Euro is not liking this announcement one bit.

I personally believe that there is no "free" alpha. That said, there is a way to earn returns that may look like alpha, especially if you are an astute student of human nature. You can make a bet when other people are behaving irrationally, as when you buy when there is blood in the street.