Late Day Derisking As Sovereign Debt Crisis Is Becoming A Banking Crisis

Tyler Durden's picture

The late day collapse in financials (thanks to Fitch's comments that seemed to wake up a stubbornly ignorant equity market to the reality that credit has been screaming for weeks) helped drag equities (and HY debt) significantly lower. Most notably, amid a much higher than average volume day today, the dislocations of the last few days - that we have highlighted - have converged very rapidly this afternoon. ES significantly underperformed a broad basket of risk assets (CONTEXT) into the close as copper and oil gave back some of the day's gains. TSYs closed at low yields for the day - and 2s10s30s dropped significantly - as we warned it would have to sustain any sell-off as EURUSD tracked back towards its lowest levels of the day dragging DXY up to almost unchanged on the day (+1.7% on the week).


It seems the combination of yesterday's VIX-Implied Correlation divergence and the dislocation in credit and equity once again provided some comfort that fears were rising. We do note that despite heavy cost of carry (and borrow) on HYG, it was clearly the weapon of choice for hedgers today and provided the early warning signal that trouble was coming.

The dollar was practically unchanged on the day - but +1.76% on the week as we note gold's selloff pulled it almost perfectly in line with dollar strength as silver's high beta nature dragged it lower. Oil and Copper enjoyed some attention today (QE and JPM) but gave back significantly into the close as risk was well and truly off.

Financials closed down 2.5% but it was the majors that lead the charge. We pointed to JEF's bond prices as signaling much more fear - and this afternoon we reiterated the recent underperformance of the majors CDS and bonds. This afternoon saw them start to converge to that uglier reality. MS is down over 10% on the week with Citi -8.4% with most of this action today (and in the last hour or two):

Compared to the tremendous weakness in Spanish and Italian banks, US banks have been relatively unscathed (and somewhat rightly so given lower leverage and less direct exposure) but there are plenty of transmission channels (via lending, credit growth, direct counterparty risk, funding needs to name a few) to bring that risk onto our shores. Remember in times of stress Gross Is Net!

And from Peter Tchir of TF Market Advisors, who has been very vigilant on the HYG market action, highlights the concerns that have seemed evident in credit markets - that this sovereign debt crisis is morphing rapidly into a banking crisis (a la Rogoff and Reinhart, we suspect).

While we wait for the ECB to begin unlimited printing we are seeing signs that more and more this is becoming a banking crisis in addition to a sovereign crisis


Unicredit's earnings were a disaster - but actually had little to do with the sovereign debt crisis - those losses were from other dumb decisions made by them.


The landesbanks were downgraded - no surprise to anyone who has ever been on the other side of a trade with them.


Spanish banks are struggling to get even short term domestic funding - an their problems are far more real estate related than sovereign debt related.


Even with ECB intervention the bonds held by banks will still be at yields that have big unrealized losses couple with losses on the swaps they did to turn the positions into floating. Any hint that ECB printing (and I'm not sure they have really been sterilizing) brings inflation will hurt the banks who are in no position to add assets.


The new issue market is mediocre at best. Bonds come cheap. After a brief flurry in the "greys" they really don't tighten leaving the flippers with "cheap" paper they don't want to hold and existing bond holders afraid their bonds are going to get marked down to match the new issue spread/yield.


HY17 vs HYG on Thursday has performed well and shorting HYG yesterday morning has worked. I would take off the basis trade but would leave the short - seems like it has another point or two to run.


Italian long dated bonds are starting to look okay. Low prices, decent yields, and a captive buyer in a crowded short. I think shorting banks via CDS is good trade now, having started mentioning that last week, and that could continue to work well as the ECB can't bail them all out.  Spanish and Italian banks and maybe even good old MS are ways to play it. I would still be short Spanish sovereign debt but think Italy really is a better long especially against Italian banks.


On a longer-term basis, HY markets are priced for an S&P around 1190 currently  (and VIX around 37%) but as HY also collapses wider, we will rapidly see the 'expected' S&P level drop further. Credit Anticipates and Equity Confirms is often cited by old-school credit market professionals - it seems once again that it is true.

UPDATE: by request - there are a few ways to play the dislocations between equity and credit markets (as we discussed yesterday) but there are limitations on what instruments can be used (i.e. access to bond or CDS markets). In pure ETF space there are two approaches we have found useful - First, SPY Arb (which is a short-term intraday capital structure arbitrage model) - utilizing the relationship between SPY (equities) and HYG, VXX, & TLT (credit, vol, and rates). This is more for day-traders as it grabs intrday dislocations between the credit and equity markets based on a weighted basket. It is not always perfect and in sustained sell-offs like this afternoon - will tend to underperform - but offers a short-term medium-risk approach to the debt-equity market.

The second approach is what we call ETF Arb - it is a longer-term model of the relationship between stocks and the investment grade credit market. Holding periods tend to be days (at moist a few weeks) and it is a mean-reverting strategy. Today saw equities move to a very significantly expensive level based on this model - as the chart above shows. We believe that a short SPY vs Long LQD (short IEF) basket, weighted accordingly will be profitable as the relationship reverts back to its six month channel. The breakout, we suspect, reflects the equity market's hope for QE versus the credit market's reality check of the European and macro environment.

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redpill's picture

It took them this long to realize they were one in the same.


Smoke 'em if you got 'em.

The Big Ching-aso's picture



Somebody in the media better ramp the bullshit up to another level.    Even J6P is starting to raise a uni-brow.

strannick's picture

Late Day Derisking As Sovereign Debt Crisis Is Becoming A Banking Crisis

Thats only fair, since it was the banking crisis that caused the sovereign debt crisis.

Meanwhile we wait for the Benevolent Federation of Planets to come buy all the worlds bonds and bailout earth.

phungus_mungus's picture

One day the headlines proclaim its all over, everthing is fine...

The next, its doomed...

Do journalist actually keep track of the stories they write or is it a requirment now you contradict yourself with every other story you write?  


SkySavage's picture

Seriously, you cannot look away from this market for a second.

WonderDawg's picture

No shit. I've been practically useless on the job the last couple of days, stuck between watching the markets and reading ZH, while trying to get some work done. Oh well, what can I say. We are witnessing a time in history that will be talked about for centuries. This is what a collapse looks like from the inside. It seems to be happening in slow motion, but when events accelerate, as they seem to be doing now, you can literally feel the tension rising.

integrale's picture

That's the sound of 300M europeans saying fuuuuuuuuuuck...we have to start from scratch...AGAIN?

GenXer's picture

I slept so much better before I found ZH. Ignorance was bliss until you're diving in dumpsters for your next meal.

xcehn's picture

ZH has that effect, definitely.

strannick's picture

Man, I think you just made the one statement EVERYONE here can agree on

yabyum's picture

Think I will stop by costco for a couple of BIG packs of tp, maybe some more cases of cheap vodka. Sounds like the new wealth to me. Bank run the MFer.

RobD's picture

lol, I picked up six of those BIG packs at Sam's club a couple of weeks ago. The lady that checks the receipts on the way out gave me a strange look.

DosZap's picture


We are witnessing a time in history that will be talked about for centuries.


No, we are witnessing a Biblical event.

Sheep Dog has it nailed as many others.

Name ANY time in recorded world history, that  80%+/- of all nations are going to go down together, in Slo Mo, or overnight.

You can't.

Personaly I believe we are witnesessing the beginnings of the advent of the coming Antichhrist.

Once the system is in place SD spoke of, there will be ZERO doubt.


xcehn's picture

So you don't think the print your way out of hell trick will work?

topcallingtroll's picture

+1 dawg.

I think it will work out for now temporarily, but I cant take my eyes off either.

Somewhere here soon it will either all go to hell or be a great time for a triple bull etf.

Tsar Pointless's picture

I hope the Grinch steals this year's Santa Claus rally.

For an extra-special gift, I want the world to go MAD for Christmas.

If you know what I mean.

Yes, I am a nihilist.

SheepDog-One's picture

You mean all the ECB's horses and all the FED's GS men couldnt put the insolvent broken banks together again?


mayhem_korner's picture



Bloodbath tomorrow?  I'm seeing CNBC up late tonight studying the spin manual.

redpill's picture

I took a walk at lunch and listened to some Bloomberg radio so I could hear of any changes (even the advertisers and weathermen have NY accents, gets REALLY annoying) and of course by mid-day they were happily declaring how the market was "well off" its lows of the day, "surging back up" after being down earlier.  Unfortunately I couldn't stand listening long enough to finally hear them shit their pants on air when this fake market finally rolled over for the day.

upWising's picture

LONG Maxi Pads.

And whad da fuk...ya makin' fun a mai aykcent?  Whaddaboutit? Whad da fuk??? You's da one wid da aykcent!

Roy T's picture


Spin Manual Lesson #1


After you report any data, quickly follow up with "It is better than expected"

Dr. No's picture

Or adopt the method used quite successfully by the us gov: report better than reality and then revise downward on the next release.

Jay Gould Esq.'s picture

Indeed, Dr. No -- a method exhibiting the unmistakable undertones of SPECTRE, in terms of the level of successfully executed deception.

"Government numbers." Oxymoronic.

slewie the pi-rat's picture


"...italy, in political turmoil due to recent un-seasonal bunga deficiency and facing about EUR400 billion in borrow-or-collapse funding for the coming year as well as having its banks needing to re-po a shitload of worthless paper from the FED system in january, today refused to release GDP data as scheduled...

"...super-mario ITA was overheard saying to super-mario IMF on his cell phone:  'dammit, mario IMF!  we're trying to make things look better here, not worse!' "  [not google translated]


Mactheknife's picture

CME's stock is in big trouble...CME stated this am that they knew of a 900mil wire transfer out of MFG PRIOR to bk filing.

Scoted's picture

Yes, MF global chapter 11 bigger issue than people think. Potential for investors to take fright due to CME stupidity.Surprised ZH has not had more to say

MF global + Euro crisis = potential imminent crash

HY tells all...

ReallySparky's picture

I too have been dissapointed that ZH has not been covering the MF debacle, however there is good coverage of the MF scandal over at Jesse's ( )  and also Harvey has found quite a bit of info from various sources ( )

I am grateful that ZH has been covering the Euro sitituation closely because where else would we get the information?  US Media very quite about Euro Crisis, sooo near as I can tell when Europe blows up and infects all our banks and 401K's go bust, MSM will claim "no one saw this coming".

Zero Govt's picture

Yes another "Black Swan" event (yawn)

..and Steve Liesmans happy data has been so encouraging recently too... for Steve it'll be a(nother) "surprise" 

0cz's picture

Get your shit together and attack already, Andromedans.  We are hurting over here on Earth and need some of the debt destroying laser action.

The trend is your friend's picture

When will the ecb finally throw in the towel and print?  ES 1100?, 1000? 900?......i would normally say....god only knows BUT 'll re phrase....GOLDMAN ONLY KNOWS

SheepDog-One's picture

Theyve tapped that keg dry long ago. No one wants their stinkin fake money anymore.

CClarity's picture

. . . cuz they do God's work . . . that Man of Gold.

Dismal Scientist's picture

Only when Sarkozy admits that Merkel is in charge. Then the ECB will print, but it will be too little, too late...

Scoted's picture

Deer in the headlights scenario.

Batten down the hatches everyone, a crash is coming!

navy62802's picture

It's always been a banking crisis. Only difference is that now someone had the balls to put it down on paper. I guess as long as we ignore the truth, then the truth doesn't matter. That's what I take away from this situation.

pelagivore's picture

Market on risk-off mode... until the politicians promise another round of emergency meetings, or China investment rumours, or any other intangible 'positive' news comes off the wire. I give risk-off a week at most and then there will be another proposed stop-gap measure that will be completely useless and we start over from last month. Will be interesting to see how gold reacts over the next few weeks, probably sideways... until the printing begins as it must, eventually.

SheepDog-One's picture

Darn, and just when everyone had declared everything fixed and humming along so smooth. Nah, no printing, time to pull the rug out. 

Theyve planned it all for decades, we're here now, everyone is screwed just like how they designed it, no more magical pixie dust farts from pink unicorns in equity market faces. World war and economic chaos is now, no doubt.

pelagivore's picture

Planned it? Hardly, you give the establishment far too much credit... 'Milked it' is more like it, and they will all continue to milk it or at least try to keep the cow alive as long as they can... I give it about a year or so.

SheepDog-One's picture

Nope, youre delusional if you think this was all just happenstance with random bankers just inventing new shit like CDS swaps to cumulate a debt of $1.5 quadrillion dollars...its been planned for decades to establish their 1 world bank, 1 world govt, and 1 currency. Theyre here now.

Hot Apple Pie's picture

It's delusional to attribute a vast coordinated conspiracy over decades when it can all be explained by simple, short-term greed. The guys who got rich in the past 30 years don't care if the economy collapses, most of them have private islands, seafaring yachts stocked with supplies and small militaries worth of private security.

g speed's picture

don't envy these guys-- their kids will kill them just like murders in the old royal families-- absolute power corrupts absolutely

g speed's picture

No plan--just uniform greed and corruption makes it look like a cordinated effort.

oogs66's picture

I think the market is long now and needs more than promises

SheepDog-One's picture

Hey where'd all the bulls go? Come on back and tell us how your BTFD went this morning, dont be such pussies all us 'doom n gloomers' are always here every day you guys! Come on Robo I see you there down voting my comments come on out and tell us what you bought today thats up! If you can find anything.

pelagivore's picture

True! Robo and Million dollar trader have both been very quiet recently

hardcleareye's picture

That's because he pissed off his mom and she hid the power supply for his computer.


HelluvaEngineer's picture

Fwiw, I mentioned BTFD this morning, and they did close the gap.  Also FWIW, I'm caught short.

One day this is going to completely crack and the market won't open.

The 20 somethings in my office are all buying momo stocks right now.  What can I tell them without sounding nuts?

JohnG's picture

Nothing.  Never argue with idiots.

Mark123's picture

Notice how nobody is even talking about Greece anymore?  I think once they told banks to atke a writedown it opened pandora's box....Italy and Spain look bad.  Until that point the only sovereign default was by inflation.