CDS

For the 4th week in a row, the UK is a top derisking name not just in sovereigns but in all DTCC tracked names. With $385 million in net notional derisking, in 227 contracts, the UK was the top 2 derisking name, with the surprising appearance of Brazil in the top spot at $460 million. Far less surprising was the 3rd name on the list: France continues to be in the top 5 derisking names week after week. Other notable names that complete the top 10 deriskers: Argentina, Germany, Australia, Korea and Japan. And the proof that corporates are now secondary to gambling in sovereigns, the top corporate derisking name, Enel SPA came in at a mere 191 million in notional, a ways away from the top three, all consisting of sovereigns. The same is true on the rerisking side, where of all 1000 names, the top 5 reriskers were all sovereigns (Italy, Spain, Portugal, Greece and Austria).

CDS update

• ( NAW ) 05/18 02:31PM GERMANY'S BAFIN SAYS BAN TAKES EFFECT FROM MAY 19 TO MARCH 31, 2011 AND 'WILL BE CLOSELY MONITORED'
• ( NAW ) 05/18 02:32PM GERMANY'S BAFIN SAYS BAN ON SHORT-SELLING ALSO APPLIES TO SHARES OF 10 LEADING FINANCIAL INSTITUTIONS
• ( NAW ) 05/18 02:33PM GERMANY'S BAFIN SAYS STEP 'DUE TO EXTRAORDINARY VOLATILITY WITH GOVERNMENT BONDS IN EURO ZONE'
• ( NAW ) 05/18 02:35PM GERMANY'S BAFIN SAYS MASSIVE SHORT SELLING COULD HAVE LED TO EXCESSIVE PRICE MOVEMENTS
• ( NAW ) 05/18 02:36PM GERMANY'S BAFIN SAYS MASSIVE SHORT SELLING COULD HAVE ENDANGERED FINANCIAL SYSTEM STABILITY

There are 4 hours until midnight in Germany. There are trillions in gross sovereign CDS notional. Germany alone had $71.4 billion in Gross CDS notional and $13.3 billion in net according to DTCC. Add up all of Europe and you get half a trillion. How on earth will the German market unwind these with all European traders already long gone. We also make the generous assumption that US CDS traders are still around: most of the BSDs tend to leave for the nearest Marriott Garden Inn by 1pm. So with naked CDS positions now verboten, who will be allowed to sell CDS? For a symmetric hedged transaction, anyone selling CDS (long credit), would have to be short cash govvies to be permitted to sell CDS. And who in their right mind would disclose that they are short anything. This is the most ill-thought out regulatory plan in the history of capital markets, and that, shockingly, includes the Frankenstein monster created by our own lame duck coruptus in extremis senator.

With Merkel also about to announce a transaction tax, America is about to see its population of HFT scalpers, front runners, predatory algos and other binary mutants explode as all the German math Ph.D.'s come to New York. In the meantime, if you listened to Goldman earlier today and covered you lost, as usual. Santelli now sees EURUSD going to 1.20 promptly. Additionally, with tens of billions in sovereign CDS scrambling to unwind overnight with no prior warning, you will see some seismic moves via arb desks. When Lehman blew up, CDS traders at least got a heads up that Sunday. This crisis is rapidly becoming worse than Lehman.

Paulson & Co's March 31 13F has been released. The fund is increasingly playing the barbell strategy, adding materially to both financial and gold stakes (both new and existing) across the board. While there were no new additions in the list of top 10 names, Paulson did add to some key names: the fund upped its stake in Bank of America by 16.8 million shares, bringing total value in BofA to $3 billion at 3/31 (combined with selling 3 million BAC Warrants); Paulson also has continued to increase its stakes in various gold producers, including Anglogold and Kinross. Other names added to included XTO, Hartford Financial, CBRE, First Horizon, and Macerich. The firm established new positions in MGM (40 million share), Apache (3.4 million), Mylan (11.4 million), Family Dollar (6 million), Devon Energy (3.3 million), Novell (25 million), Novagold (20 million), Supermedia (2.6 million), Dex One (3.7 million), Smith International (2 million), Boyd Gaming (4 million), Randgold (0.5 million), Iamgold (2.7 million), Beazer (5 million), Barrick Gold (0.4 million), and First Midwest (0.4 million). In short, Paulson added 4 new gold exposures in addition to its massive $3.4 billion stake in GLD, Anglogold ($1.7 billion), Kinross ($567 million), and Gold Fields ($297 million). Stakes eliminated completely consist primarily of various M&A arb deals that closed: Burlington Northern, Dr Pepper, Chattem, IMS Health, Encore Acquisition, Fifth Third, Kraft, Liberty Media, New York Community Trust, Pepsi Bottling and Pepsi Americas, Philip Morris, Sun Micro and Valley National. Of Paulson's $21 billion in total notional holdings at March 31, 30% were held in names directly related to gold extraction, production or gold ETFs.

CDS update for May 14th

As we pointed out last week, nobody cares about either Greece or the PIIGs any more. The focus among the smartest money out there, in the face of CDS traders, for the third week running, is on the core of Europe, and specifically on the UK. Last week the net notional derisking in UK was a massive $1,063 million in 280 traded contracts, which according to our files is the single biggest one week derisking amount on record. all the Greek "speculators" are now focusing their attention squarely on the UK... and France, which came in second with $384 million in derisking. Incidentally, these two represented the greatest amount of of derisking in all top 1000 CDS reference names (third altogether was not surprisingly Goldman Sachs with $256 million). The bet is now squarely on that the PIIGS contagion will move to the UK, and that France will also not be spared. We wish Mr. Cameron all the best as he attempts to push the $50 billion austerity measure through. We have a feeling his popularity rating in under a year will be even lower than that of president Obama. And if it isn't it will be because the cable and the dollar will be at parity. After all, we are all money devaluaing comrades now.

The greatest fear of central banks, that the "isolated" sovereign contagion could spill right back into the private sector, is starting to be realized: now in Europe and soon in the US. Market News reports that high beta European CDS names and indices are all blowing out as fears of a funding/liquidity crisis are becoming prevalent. From MNI: "The CDS market has seen another session of sharp widening in many sectors, taking its cue from falling Eurozone peripheral government bond prices rather than stocks which are more stable today. Greece and other widening government bond spreads continue to drive sentiment, with the CDS market seeing underperformance in places, with high beta cyclicals, TMT and basic materials dragging the market wider." Corporate have so far been relatively spared from the deterioration in sovereign spreads, however if the risk perception in the public arena spills right back to the private sphere, then the entire private-to-public risk transfer episode will have been for nothing. And if corporate funding costs shoot higher, with no sovereigns to back them out (themselves in need of a bailout), well then our thesis that only Mars could possibly bail out the world's bankers will be all too real.

Today Spain will test the capital markets with a downsized E2-3 billion 5 year issue (from E4.5 billion) carrying a 3% coupon. The yield on the note is expected to come higher than existing comparable maturities which are trading at 3.3%, thus pricing will likely be in north of 3.5%. At the end of March, Greece managed to raise 5 year bonds at 2.8%: there are no concerns that Greece will be able to repeat that result, much to the negative P&L of all those who bought into the last bond issue. "Spain is firmly in the eye of the storm, and the Spanish treasury cannot allow this sale to fail," said Jose Garcia Zarate at consultancy 4Cast. Yet as we showed yesterday, traders are not so worried about Spain, whom they have pretty much written off now, as the UK, France and Germany. In the meantime, the PIIGS fire is raging: Greek 3 Years just hit 15%, as its CDS trades 30 bps wider since the NY close, now at 877 bps. And the eye of the hurricane is moving west: Portugal CDS hit another high of 456 bps today, implying a 33% chance of a sovereign default. Lastly, the euro is plunging and after hitting an overnight support in the low 1.27 area, has bounced slightly. Spain will need all the help it can get. In the very least, today will be a test whether the recent rumor spread by a prominent nationalized and GGB heavy UK bank, that Spain has requested a E280 billion rescue package, was true or not.

Portugal... Spain...Greece...these are all last week's news based on CDS trading patterns. Indeed, this week saw the biggest trade unwinds of all top 1000 CDS entities (including all corporates) precisely in these three names. As the PIIGS implosion is finally being appreciated by everyone and their grandmother, the "speculators" are booking massive profits: the net cover/rerisking in Portugal and Spain was a massive $500 million net notional unwinds in each in the week ended April 30. Also known as taking profits. Greece and Ireland were also in the top 5, so as we have repeatedly claimed, the market will no longer make the news in Club Med. So where will it? No surprise there - the UK, France and Germany. The smartest money in the world is now actively betting the core of the eurozone is where the next CDS blow up will take place. With a stunning $630 million, $558 million and $370 million in net notional derisking, France, UK and Germany are the top three most active recipients in negative bets in the prior week, not just in sovereigns but in all names. The greatest non-sovereign derisker in the last week? Goldman Sachs, with $175 million. Nuff said. Yet a tangent on the UK: last week the UK saw $443 million in net notional derisking.  This week the number is even higher: $558 million. There is now over $1 billion in net risky bets made that the UK may not last. And Zero Hedge's outside bet to be the first core country to blow up, thanks to its massive PIIGS exposure, France, finally made the top spot in net derisking, with $629 million in net notional, or 189 contracts. The smart money is now massively betting that Europe's core is done for; as the PIIGS have demonstrated, the blow out in spreads for the core trifecta can not be far behind.

The bond market in Greece and Portugal is now rumored to now be shut down for the day due to total chaos, not to mention potential imminent revolution in Athens. We expect the US to "decouple."

Now that Greece is thoroughly irrelevant, the market just told the ECB, the IMF, and the EMU to prepare another $1 trillion in bailout packages. The reason: the Greek bailout just made it abundantly clear the bond vigilantes have free reign to call the bureaucrats' bluff whenever they see fit. The result: CDS of all non Greek PIIGS are now blowing out, and represent the top 4 names of all biggest CDS wideners for the day, each pushing a 10%+ change from yesterday. This movement wider will not stop until the IMF resolves to backstop all the PIIS ex. G. At this point nothing that happens in Greece is important, although the thing that will most likely happen is that the Greek government will fall imminently, killing the austerity package and destroying whatever credibility the EMU and the EU have left, but not before the IMF and the EU soak up another 110 billion euro in their slush funds. However, even with the bailout the Greek stock market is tumbling: the Athens Stock Exchange is now down 3.4% to just under 1,800. As we expected, the euro is about to breach 1.31 support. At that point, not even the US algos and the Liberty 33 traders will be able to prevent the contagion. And adding insult to injury is the latest rumor of an upcoming downgrade or very cautious language of Germany by the suddenly hyperactive rating agencies. When that occurs, you can kiss Europe goodbye.

Reading a 901 page Goldman document production (cover to cover) at 36,000 feet has proven to be both relaxing and quite productive. Among the plethora of emails, documents and memoranda, we may have stumbled upon something that could prove to be an even "bigger short" for John Paulson than RMBS: a $2 billion position in Bear CDS initiated prior to January 2007, as well as all other financial firms. Additionally, we discover that arguably the world's richest hedge fund manager (for a reason) was prophetically putting on bank counterparty hedges as early late 2006, up to and including Goldman Sachs itself. Most relevantly, in what could be damaging disclosure by Fabrice Tourre, the Frenchman notes that as a result of Paulson's mistrust of Goldman's counterparty risk, the Abacus AC1 deal was structured in a novel way in which "they would be acting as protection buyer, facing the ABACUS SPV (as opposed to a structure where Goldman is protection buyer as is usually the case)." This little legalistic variation could make a world of difference in an Attorney General's hands. It may be time to very carefully read the indenture of AC1 and compare it with those of 2006 and earlier "Abaci."

A massive arbitrage has developed in European sovereign CDS, where the differential between local and foreign-denominated (euro and dollar most typically) CDS has jumped to record spreads. Case in point Germany, where €-denom CDS trade at 30 bps, while the $ equivalent is 43 bps, a 30% spread differential. The reason for this is obvious: as concerns of pan-european defaults have hit the euro, getting paid off on euro-denominated default protection seems increasingly less attractive. Should, say, Germany default, €10MM worth of protection on a German credit event would be worth much less at default which would certainly be accompanied by an almost full devaluation of the euro, resulting in a huge hit to the "at converted" currency, presumably dollars (as the euro would no longer exist). This has led to a major drop in demand for EUR-denom German (and other European) protection, with the differential hitting the abovementioned 30% margin. As Fitch discloses, this spread was just 7% in January. As this is a second derivative play on both currency devaluation/vol and increasing default risk, arguably the most profitable way to bet on a the confluence of factors that impact the eurozone could be a simple quanto swap trade, which could reap massive rewards should peripheral or core European weakness persist.