Thursday, October 29, 2009

Look, I had everything under control until you lead us down here!

Credit trading got very ugly late last night. Sellers were showing up in force, buyers were all but extinct, the street was taking its reward and leaving. Here are a few sample quotes from traders describing the afternoon's trading conditions:

  • "Wheels coming off in finance spreads"
  • "Retail flows skewed 70% to the sell side"
  • "We're testing the liquidity thesis"
  • "Liquidity non-existent"
  • "Market clearing spread levels uncertain as sellers unable to find buyers"

Is this a inflection point? Are spreads headed wider? I'd like to think so. My models are pointing as bearish as they've been all year and I've thus moved into a bearish credit stance. However I have to admit, we've been here before. Several times over the last 6-months we've suffered through a day or two of real ugliness only to snap back. The real money back bid has (so far) always been there.

This morning it looks like the back bid is showing up again. Overnight I'm hearing credit traded well in Europe and bank spreads are opening 3-5 tighter.

The thing is, credit spreads are in a very precarious position, especially high-grade spreads. The carry trade has been a key driving force of the spread rally. Its not the only positive force, we have had some real economic improvement since last winter, but clearly ultra-easy money has helped to fuel demand for spread product.

So now which path do we start down? If economic data starts coming in stronger, if job losses abate and consumer spending keeps increasing, then the Fed will hike rates. That will be negative for spreads. If economic data comes in weaker, then maybe the Fed stays accomodative, but fundamentally spreads would probably start moving wider.

Admittedly, always in motion the future is. But how can credit spreads move much tighter near-term? Difficult to say.


Salmo Trutta said...

Jan, Feb, Mar, real-gdp = -6.4%
Apr, May, Jun, real-gdp = -.7%
Jul, Aug, Sep, real-gdp = +3.4%
Oct, Nov, Dec, real-gdp = -?

This is based on the BEA's qtr to qtr metric (domestic output of goods & services). The BEA does not report real-growth based upon its economic lag.

Month-to-month, real-gdp might just be lower in Aug. (than accumulated in Jul.), and even lower in Sept. (than Aug.)?

That's what happened in 1987. The proxy for real-gdp declined at a sharper rate, in the Sept-Oct period, than it did in any 2 consecutive months during the Great Depression.

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