Daily Credit Summary: June 24 - Risk Never Left (But Italy Did)

Submitted by www.creditresearch.com

Spreads closed significantly wider with HY underperforming IG and stocks underperforming credit as sovereign fears combined with FINREG uncertainty and a lack of positive macro prints to move investors out of risk assets from high yield, high beta, and event risk names down.

Since the roll, credit has significantly weakened with sovereigns, financials, HY, and IG (in that order of weak performance) being sold. Eastern and Estern European sovereigns are 10-15% wider on at the index level (with SovX underperforming) but Asian SovX and EM has also lost ground though we note the EM names have done better (though wider) with all seeing significant weakness today.

Greece was the standout in Europe (and in fact across most sovereigns) with a 60bps decompression today (closing below 1000bps but managing to get above and trade handily upfront for much of the day). This is a 200bps decompression since the roll and while volumes remain marginal, bonds have weakened with the 2-5Y range inverting even more significantly. Calls for 50% haircuts on Greek sovereign debt in the stress tests, and an increasingly glib view of the effectiveness of the stress tests saw FINLs shift wider once again with SEN and SUB moving pretty much in line and notably FINLs and ExFINLs not decompressing. This is interesting as perhaps we are seeing the contagion leaking back into non FINLs (which would make sense via direct channel from lending/credit as well as indirect via austerity/growth slowing).

Main and XOver moved in line with intrinsics and it appears that top-down hedges are less and less the driver than simply unwinding any longs or getting short as investors reappraise H2 2010 earnings and global growth. Certainly there has been significant decompression in Main and XOver but it appears much more systemic than any quick reach for overlays - we will see but skews look very small and while there remains plenty of uncertainty and event risk (will G-20 have anything to say? and tomorrow's US GDP, we suspect now the technicals of the roll (which we think were also affected by quarter-end being so close) are lifted that the reality of slower growth and the recognition that US going it alone on a Keynesian spending spree may not be enough.

IG opened wider (following EUR), as did HY, sold off modestly (reaching 121bps offered) before sliding tighter as stocks caught a low volume bid. This turned quickly as equity investors (who are all undoubtedly focused on earnings) saw a shift in the AUDJPY and EURJPY relationship that dragged them down. The gap up (60 pips) in the EUR which coincided with some real volatility in NatGas leaves a funny taste on our mouths as we suspect another commodity fund just blew up and that shift in the EUR was enough to trigger risk on for an hour or two.

Once that spike had worn off, we resumed our downtrend on rising volume and HY and IG followed suit (though slightly outperforming equities) to close near the wides of the day for the second day in a row. HY saw its first day in well over a week where the tightest print was >600bps and perhaps of most note today in HY was the cross of the averages that we have been discussing recently. The 50-day average spread closed wider than the 200-day average for the first time since JUL07 (see chart below) following IG's move around 12 days ago. While this remains a little wonkish, we know how critical several of these levels are proving in the S&P and even as a worse case, it leaves us some comfort with nearby stop levels.

HY Average Crossover - http://www.scribd.com/doc/33501134/HY-Average-Crossover

HY and IG closed at their widest since 6/14 today, backfilling what was some gappy trading ranges and inching back to the levels that seemed so roll-technical driven post 6/9. Interestingly given that IG spreads are in the 6/15 close context, we note that HY is 20bps wider, S&P 42pts lower, and VIX 4pts higher. A clear derisking and up-in-quality trade and given the equity/vol moves we would expect HY to be 30-40bps wider (depending on roll adjustment) and IG 3bps wider. The underperformance of HY relative to its credit peers (though not so much against intrinsics) leaves us thinking that overlays are in play again and perhaps this time it is stocks also that are being used to hedge (or Puts anyway given vol jump - VIX>30 today).

Thanks to the insurers continuing on their path of decompression, low beta IG credits underperformed high beta today but it was clear from the data that wider trading credits were significantly marked down today as breadth was dreadfully negative (only a handful of credits tighter close to close). US FINLs underformed non-FINLs as rumors that the Volcker Rule is in FINREG broke but the most notable moves were in MS today which saw a significant underperformance in both credit and equity (relative to its peers). We heard more rumors of commodity swap exposure (not sure? would they not have hedged this by now?), they issued a step-up which perhaps required some protection buying to cover (or more likely shows there inability to issue clean bullets), or was it the legal settlement?

APC was weak again (as was TOL, perhaps after LEN's comments on 20-25% drop in sales) as was BP (which broke the $29 mark and inverted further in 1s3s5s. ENRG did outperform today (as seekers of safety sought Utes) but it was CONSumer and INDUstrial credits that underperformed.

Capital Structure
From the bottom up we saw the majority of credit and equity performance agreeing on deterioration. 77% saw equity lower and spreads wider today with only 2% seeing spread compression and equity price appreciation. 11% diverged with credit outperformance and 9% diverged with equity outperformance.

Most notably Consumer (Cyclical and NonCyclical) names saw significant CDS underperformance relative to stocks (on a spread/stock vol adjusted basis) followed interestingly by Utilities (which we commented on performed best on average in credit but still moved notably wider on a vol-basis). Energy and Capital Goods saw equity underperforming the most relative to an already deteriorating credit spread on aggregate.

The six names that stood out as improving were DTE, MRK, SFD, ED, HSP, and JNJ. The worst credit performers relative to equity of the group that saw deterioration in both was SLE, CAM, DYN, GT, TAP, TOL, and KR. At the other end of that group (worst relative equity performance among the deteriorating cohort) was NKE, RIG, DELL, POL, OI, MMM, CMC, TGT, and NWS.

Among the divergent names are a few interesting event risk names. With equity rallying and credit deteriorating, HAS was the clear winner (on the LBO rumors that they denied) with a 94bps (63%) decompression and 4% rise in stocks. WEN, MAT, WEC, HOV, HMA, BZH, and UHS were all in this group also with significant CDS widening against stock strength.

The other cohort that saw credit compression and equity weakness included PXD, URI (downgrade), WFT, DHR, PFE, APA, ADM, GD, and NBR.

85% of our universe in the US were wider close to close and 88% were lower in price close to close today with weak CDS dominated by HOV, Level 3 Comms, AMR, DYN, and EK. On a vol adjusted basis HAS was the worst performer (a 9 standard deviation gap for reference) followed by CAM, WEN, EMN, LZ, SHW, MAT, SLE, GT, and CYT - several LBO screen names and some contagion.

It seems clear by the flattening of the short-end of the credit curve, decompression continuing post roll, dropping volumes in bond trading (no buyers?) and the ongoing rise in sovereign risk globally that risk never left us but was hidden behind a veil of animal spirits and liquidity. Our fear is that the spirits may have been broken and the liquidity/stimulus has all but run out. Risk never really left but continues to sloosh back and forth from government to financial to non-financial balance sheets as inevitably someone needs to feel the pain on a level equal and opposite to the ecstasy of the twenty year rally in risk assets. Shame about Italy joining France on the way home - well done Japan - here's to Germany on Sunday!!

Movers in Detail
Spreads were mixed in the US with IG worse, HVOL improving marginally but extremely illiquid, ExHVOL weaker, and HY selling off. IG trades 10.1bps wide (cheap) to its 50d moving average, which is a Z-Score of 0.7s.d.. At 119.75bps, IG has closed tighter on 232 days in the last 382 trading days (JAN09). The last five days have seen IG diverging from its 50d moving average. HY trades 76.4bps wide (cheap) to its 50d moving average, which is a Z-Score of 0.5s.d. and at 630.81bps, HY has closed tighter on 121 days in the last 382 trading days (JAN09).

Indices generally outperformed intrinsics with skews mostly narrower as IG's skew decompressed as the index beat intrinsics, HVOL outperformed but narrowed the skew, ExHVOL intrinsics beat and narrowed the skew, HY outperformed but narrowed the skew.

Comparing the relative HY and IG moves to their 50-day rolling beta, we see that HY underperformed by around 1.4bps (or 6%). Interestingly, based on short-run empirical betas between IG, HY, and the S&P, stocks underperformed HY by an equivalent 2.9bps (~ 13%), and stocks underperformed IG by an equivalent 0.6bps (~ 14%) - (implying IG outperformed HY (on an equity-adjusted basis)).

The names having the largest impact on IG are FirstEnergy Corp (-7.5bps) pushing IG 0.06bps tighter, and Universal Health Services Inc (+27.5bps) adding 0.2bps to IG. HVOL is more sensitive with Capital One Bank pushing it 0.03bps tighter, and SLM Corp contributing 0.75bps to HVOL's change today. The less volatile ExHVOL's move today is driven by both FirstEnergy Corp (-7.5bps) pushing the index 0.07bps tighter, and Universal Health Services Inc (+27.5bps) adding 0.26bps to ExHVOL.

The price of investment grade credit fell 0.18% to around 99.15% of par, while the price of high yield credits fell 0.84% to around 95% of par. ABX market prices are lower by 0.26% of par or in absolute terms, 0.45%. Volatility (VIX) is up 2.83pts to 29.74%, with 10Y TSY selling off (yield rising) 2bps to 3.14% and the 2s10s curve steepened by 2bps, as the cost of protection on US Treasuries rose 0.34bps to 37.87bps. 2Y swap spreads widened 3bps to 38.25bps, as the TED Spread tightened by 0.2bps to 0.42% and Libor-OIS deteriorated 0.2bps to 33.1bps.

The Dollar weakened with DXY falling 0.04% to85.71001, Oil rising $0.06 to $76.41 (outperforming the dollar as the value of Oil (rebased to the value of gold) fell by 0.39% today (a 0.04% rise in the relative (dollar adjusted) value of a barrel of oil), and Gold increasing $5.8 to $1243.15 as the S&P is down (1072.6 -1.36%) underperforming IG credits (119.75bps -0.18%) while IG, which opened wider at 117.5bps, outperforms HY credits. IG13 and XOver13 are +4.5bps and +17.25bps respectively while ITRX13 is +3.75bps to 129bps.

Dispersion rose +3bps in IG. Broad market dispersion is less than historically expected given current spread levels, pointing to a more sanguine view of credits as investors discriminate less between names, with dispersion decreasing more than expected today indicating a less systemic and more idiosyncratic narrowing of the distribution of spreads.

54% of IG credits are shifting by more than 3bps and 65% of the CDX universe are also shifting significantly (more than the 5 day average of 55%). The number of names wider than the index increased by 1 to 50 as the day's range rose to 4.51bps (one-week average 5.24bps), between low bid at 116.5 and high offer at 121.005 and higher beta credits (3.99%) underperformed lower beta credits (3.54%).

In IG, wideners outpaced tighteners by around 19-to-1, with 116 credits wider. By sector, CONS saw 97% names wider, ENRGs 82% names wider, FINLs 95% names wider, INDUs 85% names wider, and TMTs 100% names wider. Focusing on non-financials, Europe (ITRX Main exFINLS) outperformed US (IG exFINLs) with the former trading at 119.13bps and the latter at 114.35bps.

Cross Market, we are seeing the HY-XOver spread decompressing to 68.81bps from 63.27bps, and remains above the short-term average of 66.14bps, with the HY/XOver ratio rising to 1.12x, below its 5-day mean of 1.12x. The IG-Main spread decompressed to -9.25bps from -9.75bps, but remains below the short-term average of -7.01bps, with the IG/Main ratio rising to 0.93x, below its 5-day mean of 0.94x. Among the HY names, we see higher risk names (>500bps) underperforming lower risk (<500bps) names. In the IG names, we see higher beta names outperforming lower beta names.

In the US, non-financials outperformed financials as IG ExFINLs are wider by 4bps to 114.4bps, with 4 of the 106 names tighter. while among US Financials, the CDR Counterparty Risk Index rose 5.05bps to 163.73bps, with Brokers (worst) wider by 9.67bps to 223bps, Banks (best) wider by 2.33bps to 138.13bps, and Finance names wider by 10.76bps to 395.78bps. Monolines are trading wider on average by 215.99bps (8.29%) to 2849.94bps.

In IG, FINLs underperformed non-FINLs (3.95% wider to 3.66% wider respectively), with the former (IG FINLs) wider by 7.1bps to 187.3bps, with 1 of the 19 names tighter. The IG CDS market (as per CDX) is 16.3bps cheap (we'd expect LQD to underperform TLH) to the LQD-TLH-implied valuation of investment grade credit (103.48bps), with the bond ETFs outperforming the IG CDS market by around 3.27bps.

In Europe, ITRX Main ex-FINLs (outperforming FINLs) widened 3.44bps to 119.13bps (with ITRX FINLs -trending wider- weaker by 5 to 168.5bps) and is currently trading at the wides of the week's range at 100%, between 119.13 to 104.59bps, and is trending wider. Main LoVOL (trend wider) is currently trading at the wides of the week's range at 100.01%, between 111.63 to 96.24bps. ExHVOL underperformed LoVOL as the differential decompressed to -8.35bps from -10.07bps, but remains below the short-term average of -8.06bps. The Main exFINLS to IG ExHVOL differential compressed to 15.85bps from 18.03bps, and remains below the short-term average of 16.3bps.

The Emerging Market index is 1.6% riskier (4.1bps wider) to 266.9bps. EM (Trend Wider) is currently trading at the wides of the week's range at 93.19%, between 267.9 to 253bps. The HY-EM spread decompressed to 363.92bps from 345.23bps, but remains above the short-term average of 336.2bps, with the HY/EM ratio rising to 2.36x, above its 5-day mean of 2.28x.

Index/Intrinsic Changes
CDR LQD 50 NAIG +4.69bps to 108.43 (50 wider - 0 tighter <> 22 steeper - 28 flatter).

CDR Counterparty Risk Index rose 5.05bps (3.18%) to 163.73bps (14 wider - 0 tighter).

CDR Government Risk Index rose 2.17bps (1.95%) to 113.42bps..

CDX14 IG +4.25bps to 119.75 ($-0.18 to $99.15) (FV +4.49bps to 125.17) (116 wider - 6 tighter <> 70 steeper - 55 flatter) - Trend Wider.

CDX14 HVOL -0.1bps to 171.9 (FV +7.45bps to 0) (29 wider - 1 tighter <> 19 steeper - 11 flatter) - Trend Wider.

CDX14 ExHVOL +5.62bps to 103.28 (FV +3.59bps to 105.87) (87 wider - 8 tighter <> 44 steeper - 51 flatter).

CDX14 HY (30% recovery) Px $-0.84 to $95 / +22.8bps to 630.8 (FV +23.88bps to 613.32) (97 wider - 3 tighter <> 30 steeper - 70 flatter) - Trend Wider.

LCDX14 (70% recovery) Px $-0.58 to $95.415 / +16.98bps to 376.37 - Trend Wider.

MCDX14 +8.75bps to 231.75bps. - Trend Wider.

ITRX13 Main +3.75bps to 129bps (FV+4.8bps to 129.8bps).

ITRX13 Xover +17.25bps to 562bps (FV+18.31bps to 550.45bps).

ITRX13 FINLs +5bps to 168.5bps (FV+6.15bps to 170.41bps).

DXY weakened 0.04% to 85.71.

Oil rose $0.06 to $76.41.

Gold rose $5.8 to $1243.15.

VIX increased 2.83pts to 29.74%.

10Y US Treasury yields rose 2bps to 3.14%.

S&P500 Futures lost 1.36% to 1072.6.

Single Name Movers

The biggest absolute movers in IG were Universal Health Services Inc (+27.5bps), SLM Corp (+26.25bps), and Altria Group Inc (+22bps) in the underperformers, and FirstEnergy Corp (-7.5bps), XTO Energy Inc (-3.31bps), and Ingersoll-Rand Company (-1.5bps) in the outperformers. The biggest percentage movers in IG were Eastman Chemical Company (+14.81%), Sara Lee Corp. (+12.6%), and Sherwin-Williams Company/The (+11.73%) in the underperformers, and XTO Energy Inc (-7.36%), Ingersoll-Rand Company (-3.61%), and FirstEnergy Corp (-2.78%) in the outperformers.

In the more financial-heavy CDR NAIG LQD 50 index, sentiment is bearish with 50 wider to 0 tighter, and 22 steeper to 28 flatter as 8 of the 50 credits have inverted curves. The biggest absolute movers were General Electric Capital Corp (+18bps), GATX Corporation (+17.5bps), and Morgan Stanley (+14bps) in the underperformers, and News America Inc (+0.34bps), Campbell Soup Company (+0.55bps), and Cisco Systems Inc. (+0.83bps) in the outperformers. The biggest percentage movers in the CDR NAIG LQD 50 were Sara Lee Corp. (+12.6%), VF Corporation (+12.29%), and Computer Sciences Corp. (+9.25%) in the underperformers, and News America Inc (+0.41%), Carnival Corp. (+0.72%), and Xerox Corp. (+0.88%) in the outperformers.

In Main, the biggest percentage movers were Alstom (+23.08%), Vinci SA (+11.32%), and Solvay SA (+8.77%) in the underperformers, and Energie Baden-Wuerttemberg AG (-3.56%), Experian Finance plc (-1.47%), and Hannover Rueckversicherung AG (-1.26%) in the outperformers.The largest absolute movers in Main were Alstom (+37.5bps), Glencore International AG (+28.68bps), and Hellenic Telecommunications Organization SA (+21.87bps) in the underperformers, and Energie Baden-Wuerttemberg AG (-2.42bps), Hannover Rueckversicherung AG (-1.41bps), and Experian Finance plc (-0.91bps) in the outperformers.

The biggest percentage movers in XOver were BCM Ireland Finance Ltd (+12.91%), Lafarge SA (+9.85%), and Grohe Holding GmbH (+6.56%) in the underperformers, and Cognis GmbH (-9.82%), Cable & Wireless Plc (-4.2%), and ITV plc (-0.52%) in the outperformers.The largest absolute movers in XOver were BCM Ireland Finance Ltd (+406.84bps), ONO Finance, PLC (+71.81bps), and Ineos Group Holdings plc (+67.42bps) in the underperformers, and Cable & Wireless Plc (-16.66bps), Cognis GmbH (-7.62bps), and ITV plc (-1.5bps) in the outperformers.

In the names of the HY index, the biggest percentage movers were Brunswick Corp. (+8.34%), Macy's, Inc. (+8.09%), and Limited Brands, Inc. (+7.89%) in the underperformers, and United Rentals North America, Inc. (-1.99%), International Lease Finance Corp. (-0.35%), and CMS Energy Corp. (-0.11%) in the outperformers. The largest absolute movers in HY were Energy Future Holdings Corp. (+141.81bps), First Data Corp (+88.31bps), and Level 3 Communications Inc. (+84.78bps) in the underperformers, and United Rentals North America, Inc. (-14.89bps), International Lease Finance Corp. (-2.29bps), and CMS Energy Corp. (-0.3bps) in the outperformers.

The CDR Counterparty Risk Index Series 2 (of brokers and banks) rose 5.05bps (or 3.18%) to 163.73bps. Morgan Stanley (14bps) is the worst (absolute) performer among the banks/brokers of the CDR Counterparty Index, whilst Morgan Stanley (5.54%) is the worst (relative) performer. HSBC Bank PLC (1.19bps) is the best (absolute) performer among the banks/brokers of the CDR Counterparty Index, and Citigroup Inc (1.16%) is the best (relative) performer.

The CDR Aussie Index rose 0.77bps (or 0.68%) to 113.73bps. Woodside Petroleum Limited (5bps) is the worst (absolute) performer, whilst Woodside Petroleum Limited (2.7%) is the worst (relative) performer. Telecom Corporation of New Zealand Limited (-1.72bps) is the best (absolute) performer, and Telecom Corporation of New Zealand Limited (-2.65%) is the best (relative) performer.

The CDR Asian Index rose 1.41bps (or 1.12%) to 127.62bps. Acom Co Ltd (9.84bps) is the worst (absolute) performer, whilst Temasek Holdings (8.87%) is the worst (relative) performer. Promise Co Ltd (-20.79bps) is the best (absolute) performer, and Promise Co Ltd (-2.39%) is the best (relative) performer.


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