We’re sure there’s a drinking game in here somewhere, given that Wednesday’s headlines about new records for credit default swap indices will be usable many a time over the coming weeks as the sovereign crisis lurches along. And despite any doubts you may be harbouring about this particular market, it is simply refusing to die. CDS on France have shown a particular resilience and were the most actively traded contracts last week.
But first, some of those records that you’ll be reading about on Wednesday and Thursday and Friday:
The previous highs in the indices were last seen in September (of this year). The Markit iTraxx Senior Financials, which is a combination of banks and insurers, spent much of the crisis below 200bps and it’s only this August that it started convincingly staying above that level. At pixel time, Deutsche Bank and Commerzbank were the worst performers in the index.
The Markit iTraxx SovX Western Europe hasn’t been in existence for that long, having launched in September 2009. At that time its level was around the 50bps mark [insert wistful look].
Last week, the same index saw record daily trading activity (the last observation in the chart is for Tuesday’s trading):
Those spikes in the number of trades at the beginning of last week were impressive. It looked like market participants were doing some serious housekeeping with positions being adjusted across the board, i.e. a high number trades with small notionals.
The indices can be used to express a view outright, e.g. eurozone break-up or euro lives happily ever after. They are also often used by dealers to adjust the overall hedge on their activities trading with their clients. And we think we know what entity in particular was behind the spike (data from Depository Trust & Clearing Corporation):
(It’s a noisy, noisy graph, we know.)
Prior to France’s two most recent spikes in trading activity (in trade count terms), we had been most impressed by Italy’s spikes, which coincided with it starting to truly kick off for the country. Not long after those spikes, the spread on Italy’s CDS surpassed Spain’s.
To give an idea of how big those spikes are, the DTCC activity data starts in July 2010 and here are the Top 5 by notional and trade count respectively in the week they occurred, for the entire dataset:
CDS on emerging markets are something of a tradition and have a long history. It’s the developed country sovereigns that have seen the biggest growth in the last year or so.
As can be seen from the above table, the market has had a tendency to binge on France lately. But then, it is the biggest CDS contract out there, among those that reference a single entity (click to expand):
And here’s one more way of looking at just how big trading in sovereign CDS is, when measured by traded notional, relative to the rest of the CDS market (for contracts that reference a single entity, whether a corporate or a sovereign):
This just takes the total notional traded for the top four European sovereigns (again: France, Italy, Germany, Spain) and divides by the total notional for all CDS traded that week where the contracts reference a single entity. Notice the upward trend? And that’s just for four sovereigns.
FT Alphaville is asked from time to time what the CDS market will look like in a couple of years’ time. A lot more governmental for one. Which is why it should be particularly concerning to central counterparty-loving politicians that CDS on western European sovereigns are not currently cleared. As the FT reported about a month ago:
The company [ICE] is still awaiting approval for clearing European sovereign CDSs, which has been delayed due to volatility in the eurozone.
Jeff Sprecher, ICE chief executive, said in the company’s last earnings conference call in August: “These are extraordinary times in looking at underlying sovereign debt, and so both the regulator and our board are being quite cautious in picking our moment in entering that.”
CCP risk committee says? Too volatile, no dice.
Related links:
SWP Early Edition: Sovereign CDS – Streetwise Professor
Trade Information Warehouse – DTCC
99 per cent of credit derivatives are recorded by DTCC… sort of - FT Alphaville