European credit derivatives markets remained on the defensive on Thursday after Morgan Stanley revealed a $3.7bn loss on investments linked to the US subprime mortgage market.
Morgan Stanley joins the growing list of banks such as Citigroup and Merrill Lynch that have been forced to take writedowns on subprime-related securities. Fear of further losses in the financial sector have driven spreads on credit derivatives indices to series highs in recent days.
The cost of protection on riskier corporate debt moved sharply higher in early trade, tracking similar moves in the US indices overnight, but later regained some ground with some analysts saying the market was taking the Morgan Stanley news and another round of equity market falls in its stride.
“The steady drip-feed of poor news flow related to the sub-prime sector is inevitably weighing on sentiment, with no end in sight,” said Suki Mann, head of credit strategy at Societe Generale. “[But] the market doesn’t seem to have reacted too badly to either Morgan Stanley or the stocks sell-off.”
The iTraxx Europe Crossover, a widely watched measure of risk appetite, opened about 20 basis points wider at 375bp. However the index retreated to about 367.5bp during morning trade, meaning it now costs €367,500 annually to insure €10m of Crossover debt against default over five years.
The iTraxx Europe index of 125 investment-grade names widened to about 49.25bp in morning trade, against a close of 47bp on Wednesday.
“The market is in a very defensive mood at the moment, and it looks as if it will stay that way for some time yet,” Mann said.