Only a very few names managed gains in both equity and credit today (an interesting bunch - MAR, TOL, HOT, DHI, PEP, and SVU) as homebuilders were interestingly near the tope on the list of better performers in credit (which we suspect was related to the underperformance of the CMBX and ABX tranche markets as well as the higher beta exposure in some of the credit indices). Every sector was in agreement between credit and equity with a deteriorating move today as we note financials, leisure, and media were the worst beta-adjusted in credit relative to stocks on the day. Capital Goods, Utilities, and Consumer Noncyclicals performed the relative worst in stocks versus credit. The up-in-quality theme in credit is increasingly leaking into vol as we saw much less impact higher in vols in better-rated credits than in lower-rated credits. This was also the picture in credit though we did see the very highest rated names underperforming (financials?). This picture was somewhat different in equity-land where BB-rated and below names saw their stocks drop far less than A- rated and above names - once again we think this is to do with both financials dominating performance as well as the typical ratings/momentum correlation unwind.
Standard & Poors Cuts U.S. Outlook to Negative BECAUSE BOTH PARTIES KEEP THROWING MONEY AT ENDLESS WARS, ENDLESS BAILOUTS AND A PONZI FINANCIAL SYSTEMSubmitted by George Washington on 04/18/2011 13:20 -0400
Live blogging the S&P conference call. The Q&A session will be critical. A rather interesting one: "Did the Federal Reserve Board's program of quantitative easing contribute to your decision to revise the outlook to negative? Answer - No. We find that risks of deflation in the U.S. have lessened and that there are few indications that inflation expectations have become untethered. Although it will be challenging to sequence the unwinding of these operations while raising policy interest rates once the recovery has become firmly rooted, we believe that the credibility of monetary policy will continue to be a credit strength for the U.S."
Goldman's opinion on the S&P action took just a little longer than PIMCO to be distributed to clients: 108 minutes. Not surprisingly, after eagerly pushing rating agency opinions to clients buying CDOs from Goldman, the firm's economists are now eagerly trying to talk it down: "Clearly, the US fiscal situation is unsustainable unless a large,
multi-year fiscal tightening is implemented. However, there is no
information in today’s report about the fiscal situation that was not
already known. Academic research has generally found that rating agency
actions lag market pricing, rather than lead it. Any relevance of
today’s announcement is a) as a potential catalyst for renewed market
focus on these issues, particularly if the other agencies follow suit,
b) a signal of a nonzero probability of an outright ratings downgrade
over the next few years." And who was the research conducted by? Moody's? A Princeton Ph.D. academic? Yes, we know the country is screwed. But we can sure do without this condescending BS.
The negative outlook on our rating on the U.S. sovereign signals that we believe there is at least a one-in-three likelihood that we could lower our long-term rating on the U.S. within two years. The outlook reflects our view of the increased risk that the political negotiations over when and how to address both the medium- and long-term fiscal challenges will persist until at least after national elections in 2012. Some compromise that achieves agreement on a comprehensive budgetary consolidation program--containing deficit reduction measures in amounts near those recently proposed, and combined with meaningful steps toward implementation by 2013--is our baseline assumption and could lead us to revise the outlook back to stable. Alternatively, the lack of such an agreement or a significant further fiscal deterioration for any reason could lead us to lower the rating.
The same theme of the last few days remains in place with vol and CDS being derisked for lower quality names and relatively rerisked for higher quality names. Stocks were a much more mixed bag today with crossover names outperforming the high and low quality names on average. Financials (monolines aside) were the only sector in which equity and credit deteriorated together on average while equity outperformed credit in all the others (aside from Telecoms which saw slightly more spread compression than the equity moves would have assumed).
The same themes remain in place (equity to credit preference, up-in-quality credit, and rising dispersion or idiosyncratic risk), all of which warrant concern over equity levels. While earnings are supposedly the mother’s milk of stock prices (someone really smart told me that every day this year?), we are reminded that free cash flow is the real driver and profits are a levered result of GDP growth which is being downgraded lemming-like as we speak. While credit availability remains good for IG issuers, the potential for relevering (shareholder-friendliness) may be tainted if US CEOs continue to behave like Japanese CEO did in the 80s/90s – expecting lower than trend growth they hoarded and burned through cash. We like IG-HY decompression, HY 3s5s flatteners, Financials underperforming non-financials, and would remain fully hedged in The A-List for now. Our ETF Arb is stable and has more room for upside.
The deflating Dollar is the World's Reserve currency at 62% of all the money in the World and growing fast as Ben buys 'em as fast as Timmy can print them and then loans them out to the Banksters, who promptly lever that money 10:1 to buy commodities.
Contextually, today was interesting bottom-up with only 53% of names agreeing in terms of direction for credit and equity risk (dominated by 50% agreement that conditions deteriorated). 27% saw credit widen as equity rallied while 20% saw credit compress as equities sold off but at the sector level the picture was much more stable with most agreeing systemically worse today. Leisure, healthcare, and Consumer Cyclicals were the only divergent sectors with credit underperformance as equity managed gains (only just in the latter we note). While we saw a clear up-in-quality shift in single-name credit today ( a theme we have been suggesting recently), that was not the story in equities where higher quality names (BBB and above) actually underperformed on average those in the spec grade cohorts. Vol movements were in line with CDS once again with vol rising less for the better quality names and rising dramatically more for the lower quality names (with a particular emphasis on the crossover names in fact).
Goldman's Natacha Valla has compiled this useful paraphrase of the Trichet press conference conference. In a surprising turn of events, the ECB head pulled a Greenspan and left many scratching their heads just what he means. We will take a quick stab at predicting the implications of today's rate hike: once the EFSF runs out of capital, or outright fails, the ECB will be back in loosening mode right fast.
With Portugal about to enter the warm embrace of the EFSF, even though nobody still knows just what the constantly updated and revised EFSF actually is, and the IMF (read America) is far more likely to end up footing the cost of the latest European bailout, it makes sense to find out just what the status of the latest incarnation of the EFSF is, or as Peter Tchir of TF Market Advisors calls it, the EFSF V1.5. This is especially important as in 14 hours, Jean Claude Trichet will most likely announce a 25 basis point increase in the ECB funds rate, even as more and more of the European periphery is struggling with solvency and liquidity access. That tightening by the Central Bank will either make life for the PIGS even more complicated or make their lock out from traditional capital markets complete. On the other hand the ECB has no choice with inflation in Europe surging, and Trichet forced to do something, anything. Therefore, courtesy of the EFSF, Europe will quite literally have its cake and eat it too: it will have a QE-like debt monetization instrument in the form of a €400 billion monster CDO, while at the same time it will be removing market liquidity: this is supposed to achieve one goal and one goal only - keep cheap liquidity flowing for the insolvent part of Europe and slow down growth in the healthy part, read Germany. This has never been tried before, and nobody is willing to risk their career with a statement that it will work. On the other hand, this set up provides some perspective on how Bernanke may proceed in the future: he may be forced to tighten even as he continues to monetize various pieces of debt. Although by the time such a "solution" is implemented, there will be enough precedent to determine if the latest European experiment has been a complete or just partial failure.
From S&P, although nothing new here. EURUSD does not even blink on the news: "Given Portugal's weakened capital market access and its likely considerable external financing needs in the next few years, it is our view that Portugal will likely access the EFSF and thereafter the ESM. While we believe Portugal's public sector debt trajectory could start to decline in 2013, thereby creating the possibility that Portugal may be able to obtain ESM funding without being required to restructure its debt (based in part upon our reading of the "sustainable path" language in the EC's concluding statement), the issue of subordination remains. We are therefore lowering our sovereign credit ratings on Portugal to 'BBB-/A-3'. The negative outlook reflects our view that the macroeconomic environment could weaken beyond our current expectations and that a political impasse could undermine the effective implementation of Portugal's adjustment program, leading to non-negligible policy slippages."
The linear thinkers that dominate the mainstream media and the halls of power in Washington D.C. are assessing the series of disasters in Japan without connecting the dots of history. Their ideological desire to convince people that things will go back to normal in short order flies in the face of the facts. It makes me wonder whether these supposed thought leaders lack true intelligence or whether their ideological biases convince them to lie. At the end of the day it comes down to wealth, power and control. If those in power were to tell the truth about the true consequences of demographics, debt, disasters, and devaluation, their subjects would revolt and toss them out. Before the multiple disasters struck Japan last week, the sun was already setting on this empire. The recent tragic events will accelerate that descent.
It's another day, which means the probability of a Mohamed El-Erian op-ed is 99%. However, while in the past we may have ridiculed these now almost daily missives which lead many an LP to wonder just which media double of the real El-Erian is managing Pimco's $1.4 trillion in AUM, this one is actually worth reading as it ties in the recent developments out of Japan, with the firm's previous insistence that there will be no QE3. Oddly, this party line still has not changed: "Some will undoubtedly call either for a QE3 or for the extension of QE2. Others will warn against this type of “active inertia” in policymaking, noting that the repeated use of such an instrument will likely shift further the balance of outcomes away from “benefits” and towards what Chairman Bernanke, in his Augst 2011 Jackson Hole speech, correctly labeled as “costs and risks”. And remember, these costs and risks – or what at PIMCO we have analysed as collateral damage and unintended consequences – have consequential economic, financial, and political elements that play out both domestically and abroad. Taking all this into account, our inclination is that the hurdle rate for introducing a QE3 will prove to be very high, and rightly so."
While a crippled Europe continues to gladly enjoy being in the shadow of Fed-driven revolutions and natural disasters, its time in the sun is coming to an end. Soon everyone will realize that just today, 2 Year Greek bonds traded at all time wides of over 17%. That's right - holders of Greek bonds for 2 years will be rewarded with a 17% gain if the country actually repays these at maturity. Alas, for those who are paying attention, this has a snowball's chance in Hades of happening. And speaking of Hades, Knight Capital's Alfredo Viegas has released a note explaining not only why Greece has just passed the Rubicon following the release of its disastrous budget deficit details earlier, but also advising those who care, how to be positioned to best profit from Greece's descent into Hades, which will be promptly followed by the rest of the Eurozone. His advice: short Spanish and Italian cash bonds (this trade will work just as well using horrible, evil CDS which no politician still understands and therefore continue to be the scapegoat for everything).