Investment Grade

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NYSE total volume was the lowest for the year today. Almost 20% below December's average and down 10% from Friday's already low volumes, US equity markets managed to limp higher post the European close. Notably, volume in ES (the e-mini S&P 500 futures contract) was also the lowest of the year (at around 1.43mm cars vs 2.11mm 50-day average) and what volume there was focused on the European trading session (and right at the close). Today saw the average ES trade-size rise to recent peak levels as we note trade-size picked up into the Europe close (considerably higher average trade size around the European close than normal) and then again at the close. Peaks in average trade-size have often pre-empted turning points in the market and we note that while markets closed quietly unchanged (practically), high yield credit lost ground on the day and broad risk assets (while mostly showing small net changes) did not as a whole rally off the European close lows as enthusiastically as stocks. VIX futures and implied correlation continue to diverge as we note that VIX actually closed higher for the first time in five days.

While hardly news to those who have been following our coverage of the shadow banking system over the past two years, today Reuters has a curious angle on the European "repo" problem: namely, it appears that over the past several months the primary marginal source of cash in the ultra-short term secured market in Europe are not banks, the traditional "lender" of cash (for which banks receive a nominal interest payment in exchange for haircut, hopefully, collateral) but the companies themselves, which have inverted the flow of money and are now lending cash out to banks (with assorted collateral as a pledge - probably such as Italian and Greek bonds), cash which in turn makes its way to none other than the ECB (recall that as of today a record amount of cash was deposited by European "banks" with Mario Draghi). From Reuters: "Blue-chip names like Johnson & Johnson, Pfizer and Peugeot are among firms bailing out Europe's ailing banks in a reversal of the established roles of clients and lenders. One source with knowledge of the so-called repo deals or short-term secured lending, said the two U.S. pharmaceutical groups and French carmaker were the latest to sign up for them." Which intuitively makes sense: as has been well known for years, companies are stuck holding on to record amounts of cash, although what has not been clear is why? Now we know, and it is precisely for this reason: corporate treasurers have known very well that sooner or later the deleveraging wave will leave banks cashless, and corporates themselves will have to become lenders of last resort, especially in a continent in which the central bank is still rather concerned about sparking inflationary concerns.

UPDATE: Denials of the rumor (confirming our earlier note) of a mass refi program has BAC dropping (-3% AH) and ES down around 5pts so far (red on the day).

Late in the day as news broke of Iran nuclear talks, Oil lost some of it sheen and Gold overtook it year-to-date. Gold is now up 3.6% YTD against stocks up 1.9% (and the USD up 0.75%) as we saw stocks on their own today compared to credit markets and broad risk assets. Instead of following yesterday's stability post-Europe, FX (from a USD perspective) continued its uptrend as equities (led by financials - led by BofA on refi rumors) surged into the green as high yield credit, investment grade credit, and high-yield bond ETFs all lost ground on the day. Treasuries did sell-off (directionally correct at least) with stocks rallying but did not move as much as expected on a beta-adjusted basis (even though 30Y is now 16bps wider this year). EURUSD closed at its lows of the day (under 1.28) and Oil under $101.5 at its lows.

Whereas we have already noted that Dan Loeb's Third Point closed 2011 unchanged due to a disappointing December, today we note that according to his latest monthly performance update Loeb appears to have opened a major new position in the bonds of recently troubled Norwegian financial company Eksportfinans ASA. The chart below compares his October and December top holdings in which it is obvious that as of December 31, Third Point's third largest position is in the bonds of the private guarantor, which recently got in trouble following its downgrade to junk status in late November as Oslo withdrew its support. the result was a sharp drop lower in the bonds of the company, which traded down by 20 points on the news. So what is Loeb seeing here that makes him confident the bonds, all $33 billion of them, the bulk of which are Samurai, or yen-denominated, will surge sooner or later: another TBTF scenario, bond call play, or something else? One thing is certain: the 13F chasing lemmingrati will promptly jump in these bonds and take them much higher even if absolutely clueless why.

The S&P 500 closed practically unchanged today - recovering from decent selloff to a late-Europe-session low - amid volume that was over 30% lower than at the same time last year. Investment grade credit, the high-yield bond ETF HYG, and broad risk assets in general kept pace with ES (the e-mini S&P 500 futures contract) but high yield credit (tracked by the HY17 credit derivative index) outperformed considerably - moving to its best levels since late October. This disconnect appeared as much driven by technicals from HY-XOver (Long US credit vs Short EU credit) and HYG vs HY17 (a high premium-to-NAV bond ETF vs relatively cheap high yield spread index) trades as it was a pure risk-on trade. Elsewhere, the USD retraced only marginally the earlier gains of the day (with EUR hanging under 1.2950 by the close) as Treasury yields jumped 5-7bps more (30Y +14bps on the week now) as we can't help but notice the correlation between TSY weakness and EUR strength for a few hours this afternoon (repatriation to pay up for tomorrow's French auction?). Commodities were very mixed with Copper sliding notably (decoupling from its new friend Gold which rose and stabilized this afternoon over $1610) as Oil pushed higher all day (over $103) on Iran news and Silver leaked back this afternoon (under $29.5).

As households are supposedly deleveraging and European nations face austerity, one might suspect that global debt levels were stabilizing or even dropping. Think again. It will likely come as no surprise when we point out that the G-7 nations alone face a massive $7.3 Trillion (with a T) of sovereign-only maturities (and a further $566 Billion in interest payments) in 2012 alone. This incomprehensible number is worsened only in historical comparison as it's current level is 125% higher than was 'expected' at the end of 2010 (and 238% higher than was expected for 2012 at the end of 2009). As Bloomberg points out, Japan tops the list with $3.05tn (equivalent) followed the US at $2.76tn for 2012 as the former peaks in March 2012 (with $678bn due in that month alone) and the latter peaks in this month with January 2012 seeing over $480bn due to mature (and be rolled). But it gets worse for supply - global corporations (dominated by Financials relative to non-Financials), as noted by S&P today, have used the low interest rate environment to modestly relever and face almost $1 Trillion (again with a T) of maturing debt that will need to be rolled in 2012 (with January and March also topping the list) and over $3.1Tn in the next four years. So in the next four years, amid a slowing demand picture thanks to European worries, global corporate debt combined with G-7 sovereign debt maturing is an incredible $18.48 Trillion that will need to be rolled, rehypothecated, and have capital allocated to it (or not).

And now back down:

• FITCH SAYS ITALY RATING MAY BE CUT IF IT LOSES MARKET ACCESS
• FITCH SAYS ITALY RATING COULD BE CUT TO LOW INVESTMENT GRADE
• FITCH SAYS ITALY IS PROBABLY ALREADY IN RECESSION
• FITCH SAYS MONTI GOVERNMENT MAY REMAIN IN POWER TO APRIL 2013

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."

Moody's Investors Service has today downgraded Hungary's foreign- and local-currency government bond ratings by two notches to Baa3 from Baa1. The key drivers for the downgrades are: 1. Increased concerns about the country's medium- to long-term fiscal sustainability; and 2. Higher external vulnerabilities than most of Hungary's rated peers. "Today's downgrade is primarily driven by the Hungarian government's gradual but significant loss of financial strength, as the government's strategy largely relies on temporary measures rather than sustainable fiscal consolidation policies," says Dietmar Hornung, a Moody's Vice President -- Senior Credit Officer and lead analyst for Hungary. "As a consequence, the country's structural budget deficit is set to deteriorate." Next up: Austria

All those who may have had the displeasure of trading CDS in late 2008, just after Lehman collapsed, will recall that the most perplexing phenomenon was the massive surge of US IG spreads, coupled with the very modest move out of Europe. How the market back then was so retarded not to realize that the US banking system is just a fraction of the European one, and thus the carnage that would follow in Europe should all hell break loose in the US would be orders of magnitude worse, is merely an indication of just how stupid most market participants are. Yet looking at the chart below shows that after years of denial, finally credit traders are realizing the sad truth: namely that the European financial system is far more risky than the American one. After having traded tighter pretty much since inception, the US IG index went tighter to iTRAXX Europe for the first time in May, when it became obvious that the best Europe can hope for is a delay of the inevitable. Yet even back then the widest the now positive spread differential hit was 14 bps. Enter November 26, and a new all time wide of about 16+ bps. In other words, the incipient risk of the "safest" of European names is now the widest it has been to comparable US risk. We expect iTRAXX to continue surging ever wider as the European implosion, after well over two years of denial, is finally accepted by all. Of course, just like in the inverse case, should Europe collapse, the US will follow shortly, as the great globalization experiment ends, and America's ability to fund an endless current account deficit, the Sino-US decoupling, and the myth that Keynesianism is in any way viable ends with a massive thud.

Everything you ever wanted to know about the credit rating industry but were afraid to find out.

REIT Simon Property Group, which yesterday announced it was raising $500 million in bonds, will price these notes to yield 10.875%. And this is an A3/A- issue!

AA Shares, meet Anton Chigurh...

Some extracts:

And keeps it on further downgrade review...