Commodities And Rates Lead Derisking Afternoon

High yield credit spreads were the first to show signs of disappointment this morning but this seemed more due to technical relationships in the CDS index market as HYG stormed ahead with stocks. Commodities had notably cracked early on this morning and were trending lower already as we broke the FT rumor of broad S&P downgrades in euro sovereigns. All markets reacted instantly, no questions asked, and while IG, HY, and the S&P dropped together, it was the drops in commodities as the USD strengthened that were optically of the highest magnitude. TSYs also instantly reacted and were another major outperformer - drastically beating Bunds on the day. ES (the e-mini S&P 500 futures contract) was much less volatile than broad risk assets overnight but as Europe opened markets started to move closely together in a positive risk mode. CONTEXT (the broad risk basket) was less positive that ES in the US morning session but as we sold off and closed they were closely in sync once again as every member of the basket was contributing to risk aversion. Financials outperformed but were well off their intraday highs as a sector with the majors closing mixed (e.g. BAC near lows and MS near highs) but we note that financials were the most net sold (especially the majors) in corporate bond land.

Some late day covering lifted 30Y TSY yields and EUR strengthened against the USD (European banks repatriating ahead of their open?) helping CONTEXT and elevating ES into the close. ES was on its own relative to credit though as it tore back up to try and regain VWAP.

ES and broad risk assets (CONTEXT) generally stayed in sync and the late day surge in ES was accompanied most clearly by 30Y weakness and EUR strength (did Europeans get a late night call?).

It was certainly notable that 30Y stood out in the sell-off relative to the rest of the curve in that last few minutes. In corporate bonds, HY bonds were net bought (which means buy-side clients bought more FROM dealers than they sold TO dealers) and IG bonds net sold. This HY buying perhaps fits with the HYG moves also (as dealer inventory deleveraging is increasingly dwarfed by ETF and mutual fund flows). Most notably, Financials (which were the clear winners in stocks) saw major net selling in bonds - dominated by the majors - and this was not TLGP paper - this was further out the curve.

Credit (IG and HY) did not participate in the last minute surge up in ES as it tried to get back to 1258 (VWAP).It almost exactly hit it (see chart below - solid red line) and then retraced back down right as we closed.

Once again HYG outperformed both stocks and HY spreads and HY spread weakness (due potentially to index arbitrage) was not enough to explain the weakness and we grow increasingly concerned at HYG's richness to NAV and momentum-like characteristics as what looks like retail chases it up here.

If we didn't know better we would expect a margin hike in Silver tonight but it was clear that commodities were not bid even before the S&P rumor/news. Silver is now down almost 2% from Friday's close as Oil stays much closer to the USD moves.

Chart: Bloomberg and Capital Context