Risk Transfer Begins As EFSF Spreads Widen And Sovereigns/Banks Improve

Expectations of a grand plan may be on hold for a little while as the reality sets in for traders and asset managers alike this morning. Despite EUR strength, back above and holding a 1.40 handle, risk assets in general are less excited. European credit indices are opening tighter, as we would expect with higher beta outperforming. XOver -32bps and SENFIN -16bps may seem impressive but there is little follow-through in the underlying credits with most of the major European financials at best 5bps tighter (and notably BARC and LLOYD are wider). Its also worth noting that the index compressions are generally highest in the indices that were the most liquid and specific hedges and had traded significantly above (wider than) their intrinsic fair-value. This skew compression is similar to what we saw Monday in HY and today in IG in the US although XOver is now significantly rich to fair-value trading inside of HY for the first time in two weeks.

SovX is tighter by 14bps while underlying single-name Western European sovereigns are generally tighter with PIIGS unsurprisingly outperforming (though we have seen very few runs on Greece yet leaving it unch - which makes sense given the uncertainty). CEEMEA sovereigns are wider though (even if the index is compressing) as hedge unwinds seem the raison d'etre of trading desks today. Most importantly, the yield of EFSF bonds is rising (as we discussed yesterday), with the 2021s breaking back below Par. This makes sense as the sovereign risks are transferred to the supra-national EFSF entity and concentration risks are increased. The yield of Bunds is also rising significantly, and of course most see this as simply a move out of safe assets, but it is just as fair to conceive the risk transfer aspect here also especially as Bunds underperform UST and trade in line with EFSF so far.

PIIGS CDS are outperforming their peers but the bond yields are not exactly tearing lower - though GGBs are benefiting, though ITA and FRA 10Y spreads to Bunds have now improved on net since the Oct 3rd US equity lows.

US TSY selling has halted with yields recovering lower from earlier evening highs. SOCGEN is already out claiming it needs no new capital from outside sources so perhaps it is done selling its USD assets and reptriating?

For now, as expected, liquid credit indices are improving, single-names are not as excited (probably liquidity as much as insight), sovereign CDS are compressing but bond yields not so much, and as EUR strengthens, EFSF credit risk is deteriorating as it soaks up all that risk transfer.

UPDATE: Chatter that they are in buying BTPs already as 10Y ITA bonds rise the most in six weeks.

Charts: Bloomberg


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