C.M.O. 3.8.2010
Credit Market Overview
March 8, 2010
Ben Bernanke has, at almost every opportunity imaginable, made it clear that interest rates will remain at “exceptionally low levels for an extended period”. The only issue with any of this is that Ben works in Washington and whether the Fed is independent or not, you just can’t believe anyone in D.C.
In order to corroborate Ben’s story a review of the opinion of some of the major financial institutions view on when rates will rise was published in the WSJ recently. The results were that Morgan Stanley and UBS think it happens this July, Citigroup this October, Bank of America in January of next year, J.P. Morgan Chase in April 2011 and Goldman Sachs in January of 2012.
The markets, for just about the entire time since the first tremors of the credit crisis were felt in July of 2007, have reacted to every event, both positive and negative, with highly correlated moves among assets within a specific class as well as the across the various asset classes themselves. Evidence of this can be found in examining the moves of the major stock and commodity indices which rose in tandem from 2006 to mid-2008 and the fell in sync until March of 2009. They have both since risen from the March lows and even stayed highly correlated in the latest mid-January to mid-February sell off, also recovering as if joined at the hip.
The pundits place the reason for this synchronicity as a result of the global nature of the crisis and the realization that a global recovery will ultimately be necessary to right the ship that is the super duper tanker of the planet’s economy.
With that in mind it is worth noting, Ben Bernanke’s intention for interest rates not withstanding, that rates on the short end of the curve have begun to move higher. The yield on the 3-month T-Bill closed at 0.1359% on Friday after having bounced off of 0.0051% on 11/19/2009 and 0.0203% on Jan 11th of this year. 3-month LIBOR has been as low as 0.24875% on four different occasions in the last four months; most recently on the 4th of February. That rate was set at 0.25219% on Friday.
Higher rates, in this context and coming from such low levels, can be viewed as a positive for the global economy as even with the sovereign debt problems of the PIIGS, 9.7% of the world’s largest economy officially out of work which speaks nothing of 16MM underemployed and a host of other worries the fact that 3-month Bills are no longer trading at -0.0410% as they were on 12/4/2008 shows the market’s confidence that the worst is behind us.
Given the empirical evidence stated above regarding the relationship between stocks and commodities it is also worth noting that Crude Oil closed at $81.50/bbl on Friday, the highest price seen for that contract since January 13th of this year and 2 cents shy of $10.00 higher than its February 5th close. To the extent that stocks and commodities will continue to be linked this could portend well for equities.
Another member of the supporting cast for seems to be the hottest new play in town; “Bull Run” is volatility as measured by the VIX which closed at 17.42 on Friday. That is the lowest close for that index since Mid-May of 2008 and if not for the opening level of 16.93 on 1/11 of this year the lowest level seen on even an intraday basis since the spring of ’08 I just mentioned.
Not to be left out in any of this Investment Grade CDS spreads as measured by the CDX IG Index closed at 85bps on Friday a level last seen on Jan 20th. As loyal readers of this space know, lower CDS spreads can be an indicator of higher equity prices both on an individual and index basis. If there is a note of caution attached to the CDS level it is that unlike in more settled times, CDS spreads have a tendency to become more coincident during periods of high cross-correlation in asset classes. That doesn’t take away anything from the 85bps close on Friday but only removes the tendency for CDS to be a leading indicator.
If the past 2½ years have taught us anything it is that anything can happen. As such the only thing we can say with complete certainty is that as of the close on Friday things looked positive for Friday’s close.
Enjoy the week.
Jim Delaney
