In this short note, we describe the characteristic of a VaR-shock, an often abused expression for a rapid and significant market correction
- Alessandro Tentori, Citi, May 13
And, yeah, “VaR-shock” comes just after “an Uber for x”, “breakout move”, “confidence level”, “flight to safety”, “liquidity”, “money; dumb, smart, hot”, “more buyers than sellers”, “oversold”, “profit taking”, “range bound”, “relief rally”, “safe haven”, “sentiment”, “shadow banking”, “short squeeze” and “technical correction” in the latest edition of the markets abuse dictionary.*
But Tentori, with no obvious sign of tongue in cheek, also says the recent Bund “tantrum” (add it to the list — ed) can be defined as a VaR-shock.
Useful since we already went there a few times. Read more
With the 10-year Bund yield just past 0.6 per cent at pixel time (it was just above 0.06 per cent on April 20th)…
Gavyn Davies calls last week’s moves a “Bund tantrum” — recalling the “super taper tantrum” the IMF’s been worrying about in bonds, and which has been foreshadowed perhaps in the April 2013 JGB sell-off. (There’s also the October 2014 flash rally in US Treasuries.)
The theme throughout is sudden breakdowns in liquidity. Niko Panigirtzoglou and team at JPMorgan have attempted to actually put some numbers on the Bund liquidity drain we saw last week. Read more
Ever wondered why hedge funds remain so popular? Against much sense?
Here’s one suggestion from JPM’s Niko Panigirtzoglou and team, with our emphasis:
Why is the HF industry continuing to attract large amounts of capital [$18.2bn in Q1 up from $3.6bn in the previous quarter] despite disappointing performance? This puzzle is also reflected in HF surveys such as those conducted by Preqin. The performance of HFs has lagged institutional investors’ expectations for every single year since the Lehman crisis with the exception of 2013. At the same time institutional investors reported that they intend to increase rather than decrease HF allocations over the next 12 months.
Steady demand for convexity since the Lehman crisis is clearly one reason behind the inflows into HFs. But we believe there is another reason, which is the quest by investors for alternatives to bonds. Successive QE programs by G4 central banks have withdrawn $8tr of bond securities since the Lehman crisis and have made bonds very expensive as an asset class, inducing institutional investors to seek higher yielding alternatives to bonds even as these alternatives entail illiquidity risk. And HFs have to an extent become an alternative to bonds as the collapse in HF volatility has made HFs look a lot more like bonds rather than equities in recent years. This is shown in Figure 1 where the volatility of monthly HF returns has collapsed to that of the US Aggregate bond index over the past three years. In other words, with an annualized volatility of only 3.2%, HFs are equivalent to a bond rather than equity investment in terms of their second moment.
From a hyperbolic Citi, a new normal stat du jour:
The end of the world as we know it is approaching. Very few market participants remember a bond market where the structural trend in yields wasn’t relentlessly lower.
We can continue to quibble about the scope for marginal performance in both rates and credit – and quibble we will over the coming months. But for all intents and purposes any € fixed income investor is now picking up pennies – if not outright paying for the privilege of taking someone else’s credit risk. The 30yr bull-run in fixed income is on its last legs.
One third of €-denominated bonds have negative yields. 82% now yields less than 1%
Deutsche Bank’s annual study of defaults has landed. Thoughts on how the next cycle for corporate borrowers might be affected by flatter yields curves below, but first a reminder of just how little money has been lost to bad debts since 2009.
We can’t overstate how low overall defaults are. The 2010- 2014 cohort is the lowest 5-year period for HY defaults in modern history (quality adjusted). To protect for default risk in BB and Single-B rated bonds over this period, investors would have only required 27bps and 94bps respectively. Current EUR/USD BB spreads are 301/350bps and Single-Bs 598/527bps. Indeed in CDS, Crossover now has 10 full years of default history. The peak 5 year default period was the 12% seen in Series 8-10 (late 2007 to late 2013). Relative to its ratings, average default risk for this index should now be around 20%. So this reiterates that recent history and average history in default terms remain remarkably far apart.
From RBS’s Alberto Gallo and team:
Gallo is, selectively, very bearish (not on India though, natch) for the obvious reasons: Read more
Here’s an arresting chart from CreditSights, which shows the face value of all dollar and euro corporate debt outstanding:
Whilst strolling on a beach in southern California over the holidays, we were inspired to try our hand at songwriting. (The topic may or may not have been partly inspired by our location.) After toying around with our initial idea for a while we managed to produce a few verses and a refrain. Feel free to suggest additional lyrics in the comments. To the tune of Jingle Bells:
Rolling down the curve
With my Eurodollar strips
Making tons of money
‘til the Fed hikes 50 bps! Read more
Something to keep an eye on (the respective reaction of the 6mth, 2-year, 5-year, 10-year and 30-year JGBs to the BoJ’s QE onslaught):
Taken together, the policy vol crunch and regret factor must be putting the remaining bears in a paroxysm of remorseful fear.
He’s very quotable, Nomura’s Kevin Gaynor. Read more
It’s an expected slap in the face: the worse the reports about Hugo Chavez’ health, the more his country’s debt rallies.
The latest information from the Venezuelan government is that three weeks after his December operation Chavez remains in a Cuban hospital, suffering from a “severe” respiratory infection. Yet, as the FT reports, some think that the government is not disclosing the full details: Read more
Global markets for raising capital mostly shut down in August, especially for smaller and riskier companies, amid a surge in volatility and a pullback in investor flows, the FT reports. August is normally a slow summer month. But even on those terms, markets saw a dramatic reversal of attractive financing conditions for even low-rated corporate issuers, sparked by worries that the burden of sovereign debt in the US and Europe is going to make it harder to rescue a slowing global economy. The high-yield, or junk bond, market had the slowest August globally since at least 1995, according to Dealogic, when it began tracking the market. The small to midsized companies that typically issue equity also had a hard time, especially in the US, which had been seeing healthy deal flow earlier this year as strong debuts for the likes of LinkedIn, the social networking site, sparked interest in start-ups. “When people are in a risk-off mode, these are the deals that become hardest to do,” said Craig Orchant, partner at EA Markets, a capital markets advisory. August was the first month with no euro-denominated, investment-grade corporate bond sales since the European common currency was introduced in 1999.
The yield on high-quality US corporate bonds has fallen to record lows as investors seek out debt from top-notch companies as a relatively safe destination for their cash, the FT reports. The average yield on the benchmark Barclays Capital index of US corporate bonds with investment-grade ratings on Wednesday reached an all-time low of 3.42 per cent, five basis points below the previous record of reached in November of 2010. “Growth is continuing to slow and that is a challenge for all risk assets,” says Ashish Shah, head of global credit at Alliance Bernstein. “Investment-grade corporate credit is acting as a safe haven, because these companies have record amounts of cash on their balance sheets and low levels of short-term debt.” The rally in top-quality corporate debt comes as stocks and riskier bonds have continued to lose value. The uncertainty regarding the outlook for sovereign credits has made corporate bonds prized by investors.
Goldman Sachs has been through the legal and regulatory wringer for two years now but its weak performance last quarter came from the heart of the business – fixed-income trading, the FT reports. JPMorgan Chase and Citigroup beat analysts’ expectations with their second-quarter results last week. Goldman’s came in short, with a 53 per cent year-on-year plunge in fixed income, currency and commodities revenues to $1.6bn doing the damage. The bank reported overall earnings of $1.1bn, or $1.85 a share, and announced 1,000 job cuts. Analysts had expected profit of $2.27 a share. “It’s one of the very, very few quarters since our [initial public offering in 1999] that we’ve underperformed in FICC but we did,” acknowledged David Viniar, chief financial officer. He said there had been no “impairment” to the group’s franchise, but added: “I don’t want to sugar coat things – I think we underperformed.” That is as far as the mea culpa went. Mr Viniar said Goldman had made a conscious decision to reduce its risk exposure, as the sovereign debt crisis in Europe worsened, and it was not yet clear whether that was right or wrong.
The US bond market raised the odds of a renewed deflation risk on Thursday, with a key benchmark Treasury yield falling below the current core rate of inflation, the FT reports. The yield on five-year notes closed below 1.5 per cent on Thursday, the first time since last November. Last week, data showed that core inflation – which excludes food and energy prices – was running at an annualised rate of 1.5 per cent, up from 0.6 per cent in December, the fastest rise over a six-month period since 1983. In spite of that jump, the yield on five-year notes fell to 1.43 per cent in New York. It means five-year yields are not pricing in any risk premium for inflation, though a measure of core inflation based on personal spending and consumption is running at an annualised rate of 1 per cent.
The reporting season for Europe’s investment banks starts this week and expectations are not high…
From Monday’s FT: Read more
That’s the reaction of one City analyst to Tuesday’s third-quarter results from UBS. Read more
Royal Bank of Canada has struck a £963m ($1.5bn) deal to buy BlueBay Asset Management, reports the FT. London-listed BlueBay’s shares jumped by 30% on news of RBC’s 485p per share offer, capping a turbulent year for the UK bond and fixed income asset manager and netting millions for its founders Hugh Willis and Mark Poole. At a a 29.1% premium to BlueBay’s Friday closing price the deal will hand Willis, chief executive, and Poole, chief investment officer, a windfall of £81m each from their 8.5% stakes only months after they each sold £21m of shares into the market. After number-crunching, Lex notes that the price is not a particularly high premium to pay for control of BlueBay and its ‘rarity value’.
Bill Gross’s PIMCO has taken an $8.1bn position on the US not suffering a decade of deflation like the one experienced by Japan in the 1990s, reports Bloomberg. Regulatory filings show that was the notional value of long-term derivative contracts tied to the US consumer price index that Pimco’s mutual funds entered into during the first half of this year. According to Bloomberg, the funds receive $70.5m in up-front premiums under these contracts, known as inflation floors, in return for agreeing to pay investors should prices decline in the 10 years ending in 2020.
The hedge fund strategy pioneered – and made notorious – by Long Term Capital Management is returning to prominence amid one of its most successful years yet, aided in large part by the massive issuance of bonds by the UK government and other sovereigns, the FT reports. Fixed-income relative value trading – shunned by investors after the collapse of LTCM in 1998 – has been one of the industry’s few outperformers this year, thanks to massive pricing anomalies caused by fiscal stimulus packages and unconventional central bank monetary policies around the world.
US financial groups face high investor expectations for strong earnings growth in their first-quarter results in spite of subdued markets for equity trading and investment banking in the first three months of 2010, the FT says. A slump in equity issuance, a fall in takeover activity and a sharp decrease in volatility would force banks to rely on debt underwriting and fixed income trading for their profits, analysts said.
Both Bloomberg and the Wall Street Journal ran interesting — if ostensibly contradictory — pieces on the bond market on Monday.
First the news wire on the appetite for step-up bonds: Read more
Here’s an interesting footnote to JP Morgan’s consensus-crushing earnings released on Wednesday.
Net revenue was $7.5 billion, an increase of $3.4 billion, or 85%, from the prior year. Investment banking fees were up 4% to $1.7 billion, consisting of equity underwriting fees of $681 million (up 31%), debt underwriting fees of $593 million (up 19%) and advisory fees of $384 million (down 33%). Fixed Income Markets revenue was $5.0 billion, up by $4.2 billion, reflecting strong results across most products and gains of approximately $400 million on legacy leveraged lending and mortgage-related positions, compared with markdowns of $3.6 billion in the prior year. Read more
So who buys banks’ hybrid, or subordinated, debt?
Fixed income funds (FIFs), for a start. And S&P’s just-released report into UK FIFs makes for an interesting illustration of what’s been going on in the sector. Read more
All things considered, investment banks managed a stellar first-quarter — with results lifted by performances in their fixed income units.
The big question hanging over bank-watchers since, has been whether the IBs can repeat that performance in subsequent quarters. Some commentators, like James Kwak over at The Baseline Scenario, were sceptical. In fact, Kwak noted back in April that in order to repeat its Q1 earnings of $2.1bn in net income, a bank like JP Morgan would have to repeat “unprecedented, exceptional, super-duper” fixed income trading revenues quarter after quarter. Read more
30-YR TREASURY BOND FALLS OVER FULL POINT, 10-YR OVER HALF POINT, AS SELLOFF DEEPENS Read more
As noted, the flight to safety is taking on epic proportions. With that in mind our thoughts are going to what may happen next, or specifically, the implications of a Treasuries bubble. Here’s one view from Monument Securities (our emphasis):
Though a Treasuries bubble might appear unproblematic, however, its bursting could turn out to be more dangerous than the collapse of any other kind of bubble. If confidence eventually returned to other markets, investors would shun the low yields on Treasuries. The Fed would then face the choice of monetising most or all of the Treasuries market, as funds fled to higher-return investments, or else of allowing Treasuries yields to race higher. Because foreign holdings represent a significant proportion of the stock of Treasuries outstanding, a collapse in Treasuries prices might soon be reflected in a collapse of the US dollar, with the accompanying threat of hyper-inflation in the USA and depression elsewhere. At that point, many investors might wish they still enjoyed the comparative calm of the ‘credit crunch’. Read more