Despite a plethora of negative macro data, stocks handily outperformed credit, and pretty much every other asset class, from Friday’s close as a late day surge today took us to two week highs in the S&P 500. The margin cut in S&P futures appears to have exaggerated any month-end need-to-be-long-ahead-of-QE3 ebulience as S&P futures ripped to their highs of the day in the last 30mins of the day, notably away from our risk basket (in the chart above) and extending the run of days-outperforming-credit to five-in-a-row.
The last week has seen our equity/vol/skew model-implied HY spread outperform the HY market by almost 35bps and even IG credit has seen a clear shift in momentum away from the up-in-quality / up-in-capital-structure trade back (at least in the short-run) to equities. Whether this is a new trend is unknown but we are definitely biased to the view that equities have shifted too far from ‘relative-value’ here once again and would at minimum use this equity strength to cover more remaining unhedged beta.
Our ETF Arb once again looks attractive as stocks have pulled away from credit/TSYs view of the world and an entry in the $17.75 to $18 (short remember) with a stop at $19.5 and target at $15. The HY-IG decompression trade gave back a little since Friday but remains very healthy in both CDS and ETF land as today caps a rather weak month for HY credit overall.
Overall, credit moves were rather muted today as stocks outperformed in every sector except Consumer NonCyclicals (on a beta-adjusted basis – meaning when we account for our model-expectations of equity/vol/credit performance). Basic Materials, Tech, and Consumer Cyclicals were the impressive outperformers in equity relative to credit as a mad scramble for higher beta seemed to emerge. Only 15% of CDS were wider on the day and only 12% of stocks (within our capital structure universe) as single-name vol rose more than expected (especially relative to index vol).
Low beta CDS outperformed high beta since Friday’s close – even as Germany’s about face on Greece seemed to spur some positivity in European spreads (though nothing like as much as would have been expected from their stock performances). High beta equities outperformed low beta though but directionally more than 72% of all names moved in the same direction (i.e. spreads tighter/stocks higher). There was no real theme to the performance across credit quality today – though top-down HY just eked out an outperformance based on empirical beta over IG – with the majority of cohorts seeing equity outperform as we stated above.
The overnight relief rally in S&P futures on the back of the German news was far less gloriously enthused over in the credit markets - where perhaps we would have expected the most positive sentiment (though we all know the awful inevitability of it all). While it is true that peripheral bond spreads did indeed rally (though rather marginally in the big scheme of things), CDS were largely unimpressed, curves flattened in bond land, and bases (plural of basis?) compressed as we continue to believe (based on observations and discussions with traders) that basis traders are the marginal bid in all this peripheral ‘stuff’.
The chart above shows the Greek and Portuguese CDS-Cash basis rising (becoming less negative) in recent days/weeks as traders take advantage of the wide spread differentials (though not risk-less by any means given re-profiling/re-structuring trigger uncertainty). Given that Greece is now very flat in the belly of its curve and the basis is now very low also, we worry that should we see these marginal buyers rotate away (take profits) as we suspect they are into Portugal (given its large basis) then Greek bonds will struggle further – no matter what the Troika decide.
European SovX (the index of European sovereign spreads) managed a 4bps rally (back inside 200bps) as intrinsics (the value of the index based on individual components) remains notably wider. Financials benefitted from the positive perception of Merkel’s comments but only to the tune of 3bps (as non-financials rallied 1bps on average) but the moves in the Main-SovX-FINs relationship were very much in line with empirical performance and lacked any real confidence that this time its different.
Asia ex-Japan rallied modestly back under 110bps as ITRX Japan widened almost 2bps (hurting our compression trade modestly) as Asian sovereigns in general rallied (as did EM sovereigns). Australia, after dismal home loan data last week, managed an impressive 2.5bps gain on the weekend – rather surprisingly quite honestly, but we suspect the month-end euphoria and initial impact of Merkel’s view will be unwound a little once we reopen tonight down under.
The bottom-line was an impressive close-to-close performance for equities was mainly driven by excitement into the close and the calmness of credit markets (and the rest of the risk-style asset markets as characterised by our risk basket) seems much less benign than talking-heads would have us believe. A clear preference for lower beta credits over higher beta and TSYs managing to close with lower yields in the face of a rip-yr-face-off rally in S&P futures suggests stocks have reached too far once again. The broad equity market is as rich as it has been this cycle relative to HY spreads and has outperformed IG spreads significantly in the last few days. Our preferred avenue to benefit from this view is the ETF-Arb but we point out that our A-List is performing very well once again (maintaining upside and mitigating downside relative to the S&P) if long-only is your passion.
Index/Intrinsics Changes (from Friday’s close)
CDX16 IG -1.5bps to 89.25 ($0.06 to $100.4) (FV -0.99bps to 88.18) (7 wider – 97 tighter <> 63 steeper – 61 flatter) – No Trend.
CDX16 HVOL -2.6bps to 147 (FV -1.57bps to 147.47) (2 wider – 27 tighter <> 16 steeper – 14 flatter) – No Trend.
CDX16 ExHVOL -1.15bps to 71.01 (FV -0.81bps to 70.22) (5 wider – 91 tighter <> 49 steeper – 47 flatter).
CDX16 HY (30% recovery) Px $+0.25 to $102.25 / -6bps to 445 (FV -5.69bps to 432.56) (11 wider – 85 tighter <> 62 steeper – 38 flatter) – Trend Tighter.
LCDX16 (70% recovery) Px $+0.06 to $100.78 / -1.52bps to 248.48 – No Trend.
MCDX16 +0.04bps to 120bps. – Trend Tighter.
ITRX15 Main -1.56bps to 102.5bps (FV-0.7bps to 105.27bps).
ITRX15 HiVol -1bps to 139bps (FV-2.07bps to 138.99bps).
ITRX15 Xover -3.75bps to 370bps (FV-2.07bps to 356.52bps).
ITRX15 FINLs -3.37bps to 156.63bps (FV-0.59bps to 152.09bps).
DXY weakened 0.48% to 74.59.
Oil rose $2.1 to $102.69.
Gold fell $0.82 to $1535.58.
VIX fell 0.53pts to 15.45%.
10Y US Treasury yields fell 1.3bps to 3.06%.
S&P500 Futures gained 1.14% to 1345.
Spreads were tighter in the US as all the indices improved. IG trades 2.8bps tight (rich) to its 50d moving average, which is a Z-Score of -1.1s.d.. At 89.25bps, IG has closed tighter on only 41 days in the last 620 trading days (JAN09). The last five days have seen IG flat to its 50d moving average. HY trades 9.2bps wide (cheap) to its 50d moving average, which is a Z-Score of 0.8s.d. and at 445.03bps, HY has closed tighter on 88 days in the last 620 trading days (JAN09). Indices generally outperformed intrinsics with skews mostly narrower.
Comparing the relative HY and IG moves to their 50-day rolling beta, we see that HY outperformed by around 3.2bps (or 52%). Interestingly, based on short-run empirical betas between IG, HY, and the S&P, stocks outperformed HY by an equivalent 12.7bps, and stocks outperformed IG by an equivalent 2.5bps – (implying IG underperformed HY (on an equity-adjusted basis)).
Among the IG names in the US, the worst performing names (on a DV01-adjusted basis) were RR Donnelley & Sons Company (+1.25bps) [+0.01bps], McDonald’s Corporation (+1bps) [+0.01bps], and Time Warner Cable Inc. (+1bps) [+0.01bps], and the best performing names were Toll Brothers, Inc. (-5bps) [-0.04bps], Conagra Foods Inc (-4bps) [-0.03bps], and Sara Lee Corp. (-3.5bps) [-0.03bps] // (absolute spread chg) [HY index impact].
Among the HY names in the US, the worst performing names (on a DV01-adjusted basis) were Eastman Kodak Co. (+11.92bps) [+0.09bps], Goodyear Tire & Rubber Co. (+7.5bps) [+0.08bps], and Cooper Tire & Rubber Company (+2.5bps) [+0.03bps], and the best performing names were MBIA Insurance Corporation (-80.2bps) [-0.59bps], K Hovnanian Enterprises, Inc. (-48.92bps) [-0.34bps], and Radian Group Inc (-32.9bps) [-0.29bps] // (absolute spread chg) [HY index impact].
Among the European IG names, the worst performing names (on a DV01-adjusted basis) were Nokia OYJ (+15.5bps) [+0.12bps], Banco Popolare SC (+3bps) [+0.02bps], and RWE AG (+2bps) [+0.02bps], and the best performing names were TNT N.V. (-6.81bps) [-0.05bps], Xstrata Plc (-5.5bps) [-0.04bps], and UniCredit SpA (-5bps) [-0.04bps] // (absolute spread chg) [HY index impact].