LIBOR

Earlier, we reported the Euribor jumped in response to a stress test than now is perceived as fraud by virtually everyone. We also expected some moderate reconfirmation in the Libor market. Sure enough, the last nail in the coffin of Eurozone credibility came from the 3 month Libor, which spike by 0.2 basis points to 0.82313%, the highest since August 21, 2009. Interbank lending in Europe just give JC Trichet and the rest of the propaganda goon squad the middle finger. All else is smoke and mirrors. And since the overnight index swap (OIS) rate dropped marginally, the LIBOR-OIS spread jumped by 0.538 bps to 26 basis points.

3 Month Euro Libor continue rising: for the first time August 2009 the rate is over 0.8%, hitting 0.80813%. More tremblingly, the far less manipulated OIS spread (no trimming of outlier percentiles) also jumped by an even greater amount, thus actually pushing the Libor-OIS spread down to 0.33331%. Another indication of the sudden EUR scarcity which both we and Nic Lenoir discussed in depth last week, is the plunge in the allocation by European banks toward the ECB's deposit facility: after hitting an all time record a month ago at €384 billion, a series of liquidity withdrawal actions have pushed this number to just over €58 billion: the scarcity of euros within the financial system is starting to be felt everywhere as banks no longer even have an excess of cash to deposit for risk free "storage." Market News describes this deterioration in liquidity as follows: "Eurozone interbank markets are likely to be dominated this week
by speculation about, and the eventual publication Friday, of the EU
Commission's bank stress tests. There are concerns Irish banks, German
Landesbanks and the Spanish Caja could all perform badly in the tests." Luckily, all is good in Greece, where one version of G-Pap (the finance minister) announced earlier that all banks are expected to pass with flying colors. Somehow he said that with a straight face, and without breaking out in hysterical laughter.

The primary indicator used by Jim Caron in his daily letter to assuage client fears about contagion, 3 month Libor, has taken a step for the worse. As Market News reports: "Dollar and euro 3-month LIBOR both rose Tuesday, with the dollar rate at its highest since July 6 last year and the euro rate at its highest since Dec 29 2009. The euro overnight LIBOR rate rose 32.13 basis points, due to the end of the European Central Bank maintenance period, while the 3-month LIBOR rate was up 0.19 points." Adding to increasing short term funding concerns was the fact that going forward the ECB will take a 5% haircut on all Greek bonds posted as collateral with the ECB. As this amount has surged recently, Greece will be now forced to post yet more bonds just to cover the spread. Luckily, Greece is allowed to post any collateral at all, as the once-prudent ECB now allows for any worthless collateral to be pledged for cash on its balance sheet. Very much like our own Fed. Lastly, yesterday's Greek downgrade by Moody's drew harsh criticism by Europe. As Reuters reports: "Moody's decision came at quite an astonishing and unfortunate moment" according to Olli Rehn, who added "the downgrade had not taken into account latest developments in Greece." On the other hand, seeing how much credibility (none) the Greek government has, after having been caught lying about its deficit for years, is this really a surprise?

Much has been said about Libor, Libor-OIS, TED spreads and other Libor-based metrics, both here and elsewhere. It is no secret that liquidity conditions in Europe are at Lehman levels when looked at from a capital preservation and counterparty risk perspective, in terms of how much money the banks there have parked with the ECB. And yet the Libor as an absolute metric is far away from its all time wide levels seen in September 2008. Bloomberg's chart of the day provides a good reason for why Libor is not only no longer relevant, but why any reading for Libor (and potentially Euribor) no longer represents the true liquidity tightness experienced by member banks. As Bloomberg notes: "Banks have all but stopped lending to each other, driving transactions in the interbank market to the lowest level since August 1994 and undermining the validity of the suite of interest rates known as Libor. “The interbank market died with Lehman Brothers,” said David Keeble, head of fixed-income strategy at Credit Agricole Corporate and Investment Bank in London. “Libor is a strange beast, because the market that it’s based upon barely exists."

It should come as no surprise that the short-term funding markets for European banks are getting increasingly problematic. Unfortunately for the ECB, which can intervene with a 6-12 hour time horizon to prop up the euro, there is nothing it can do to limit the bleed in Libor. Confirming this, Libor simply refuses to slow down its constant creep higher, causing increasing pain to all those who have sold the Ted spread and Libor-OIS, both of which are back to September 2009 levels. Yet while a surging Libor in itself is a troubling phenomenon, what is even scarier is looking at the offers provided by constituent banks to the Britsh Bankers Association, which compiles the data and provides an ex-outlier quartile adjusted Libor rate. The dispersion between the top and bottom bank in today's EUR LIBOR panel was a whopping 33% today, begging the question of just how healthy the upside panel outliers are.

As the attached chart demonstrates, Bloomberg interpolates that there is not even a 1% probability of Fed hike today. The earliest possible hike date is April 28, and even then the probability of a raise to 0.5% is 4.8%. The subsequent date, June 23, has a 14.8% probability of a 14.8% increase, and 0.7% to 0.75%. And even as all is quiet on the Fund Futures side, something is stirring in the Libor market, where 1 week LIBOR has moved to October 2009 levels overnight (in absolute terms, the move from 0.2% to 0.221% is of course a joke; massively leveraged, however, is a different story).

It is not often that one finds smoking gun reports which refute all claims, such as those by EuroStat and Angela Merkel, in which the offended parties plead ignorance of the fiscal inferno raging around them, kindled by lies, deceit, and blatant mutually-endorsed fraud, and instead, now facing themselves in the spotlight of public fury, put the blame solely on related party participants, such as, in a recent case, Greece and Goldman Sachs. Yet a 2001 report prepared by Gustavo Piga, in collaboration with the Council on Foreign Relations and the International Securities Market Association, not only fits that particular smoking gun description, but the report itself was damning enough of another country, a country which used precisely the same off-market swap arrangement to end up with an interest expense of LIBOR minus 16.77% (in essence the counteparty was paying Italy 16.77% of notional each year as a function of the swap mechanics), in that long ago year of 1995. The country - Italy (for confidentiality reasons referred to in the report as Country M), was at the time panned as the Enron of the European Union due to precisely this kind of off-balance sheet arrangement by the Counsel of Foreign Relations. The counterparty bank: unknown (at least in theory, since the swap was highly confidential, and was referred to as Counterpart N), but considering the critical similarities in the structuring of the swap contract to that used by Greece in 2001, and that ISMA cancelled Piga's press conference discussing his findings out of fear for the academic's life, we can easily venture some guesses as to which banks value their recurring counterparty arrangements more than human life.

In response to turmoil in the interbank lending market, the Federal Reserve inaugurated programs to bolster liquidity beginning in December 2007. Research offers evidence that these liquidity facilities have helped lower the London interbank offered rate, a key market benchmark, significantly from what it otherwise would have been expected to be.

Most financial experts are aware that the only reason the economy has not yet collapsed entirely, is due to the trillions in governmental safeguards and industrial subsidies. Zero Hedge has written extensively on the topic, and it is nowhere more obvious than here, that virtually the entire financial system is backstopped by explicit and implicit guarantees. And in true pro-cyclical fashion, the expectation for permanent governmental crutches can be best seen in some of the same metrics that in the post-Lehman days markedly went off the charts, most notably the LIBOR rate.

Most financial experts are aware that the only reason the economy has not yet collapsed entirely, is due to the trillions in governmental safeguards and industrial subsidies. Zero Hedge has written extensively on the topic, and it is nowhere more obvious than here, that virtually the entire financial system is backstopped by explicit and implicit guarantees.

Most financial experts are aware that the only reason the economy has not yet collapsed entirely, is due to the trillions in governmental safeguards and industrial subsidies. Zero Hedge has written extensively on the topic, and it is nowhere more obvious than here, that virtually the entire financial system is backstopped by explicit and implicit guarantees.

Most financial experts are aware that the only reason the economy has not yet collapsed entirely, is due to the trillions in governmental safeguards and industrial subsidies. Zero Hedge has written extensively on the topic, and it is nowhere more obvious than here, that virtually the entire financial system is backstopped by explicit and implicit guarantees.

Most financial experts are aware that the only reason the economy has not yet collapsed entirely, is due to the trillions in governmental safeguards and industrial subsidies. Zero Hedge has written extensively on the topic, and it is nowhere more obvious than here, that virtually the entire financial system is backstopped by explicit and implicit guarantees.

Everyone knows there is something very screwy about LIBOR, with opinion ranging from it's way too high to the opposite. We also have been quite vocal in our opinion of the TED Spread but that's irrelevant for the time being. Lately we have been looking at the most recent BBA data for the 3 month LIBOR submission by bank and while the average is 1.122%, the range is quite wide: 1.04% at the tight end to 1.204% at the wide.