Something's Afoot in CDS: The Merrill - Bank of America Decompression Trade

With any predictive quality the equity market might have had long dead and buried, the only somewhat sane place left for investors looking at even a modicum of rationality is the CDS market. And something there is afoot, at least when looking at the Merrill - BofA decompression trade, which over the past few days is getting back to levels last seen when Lewis was discussing splitting investment from commercial banking. The outcome of tomorrow's shareholder meeting is getting more and more interesting: judging by CDS levels, one could ask if someone knows something?

Update: Calpers has just joined the ranks of Lewis dissenters ahead of the shareholder meeting tomorrow. This is likely game over for the CEO.



hat tip Credit Trader

Comments

[speeddaimon:]

Tyler,

Could you explain what the increased CDS levels could be pointing to? I don't really understand the CDS market so I can't even hazard a guess. Thanks.

Apr 28 03:33 PM

[infp:]

Not the dreaded golden parachute, the bane of all American financial executives!! Followed by the self-serving memoir and corporate lecture tour. No wonder American executives quiver at the thought of being fired.

Apr 28 03:45 PM

[asaf123:]

Its pointing to a higher risk of default


On Apr 28 03:33 PM speeddaimon wrote:

> Tyler,
>
> Could you explain what the increased CDS levels could be pointing
> to? I don't really understand the CDS market so I can't even hazard
> a guess. Thanks.

Apr 28 03:46 PM

[nobby73:]

The spread is implying that MER is higher risk than BAC, which would mean that the two credits are not the same. However, this is misleading as the risk is a combination of probability of default and the loss given default. It might simply be that there is not a full BAC guarantee on MER liabilities, therefore in the event of default of the whole group, the recovery on MER debt is lower than on BAC. This is not that strange given the fact that MER is much more leveraged than BAC, so if the probability of default for both rises, the spread between the two should also increase...

Or it could be, as the author implies, BAC is looking to cast MER adrift.

As for the self-serving memoir, I'd suggest the title, "If I did it."

Apr 28 04:19 PM

[aarc:]

How to read the chart?

The run up from zero to 190 is a 5 wave rally. We call this a 1-2-3-4-5 rally when going to the upside.

Notice that after the 1-2-3-4-5 upside run there is a 1-2-3-4-5 rundown of smaller scale from 190 to 112 (estimate only). Then the most recent spike up from 112 to current price of 153 (estimate only). This sudden spike up is what we call a "bear rally" on the smaller degree after an initial small degree 1-2-3-4-5 run down has occured.

To make this discussion short since very few analysts know how to read charts using Elliott Waves analysis: The chart is indicating a potential zigzag run up to perhaps 160 to 170, the zig already exists, the zag to follow after a minor run down. After the small zigzag up should follow another bigger run down to 80-60 levels.

I don't have an eSignal chart on this, so I am using eyeballs instead of fibonacci levels on TD's chart.

In summary, there will be more run down in the near future for this CDS. The corrective process to the downside is not yet finished after the major 1-2-3-4-5 rally from zero to 190.

That means that after a sustained fear by CDS buyers, fear will subside slowly - before perhaps more incidents will start stoking the fear back to higher levels that will force them to buy more CDS protection against BAC failure.

Comparing this CDS chart to BAC daily chart. They are not well correlated. Too many conflicting runs over the same time period. Meaning, more likely than not, you will be at the wrong side of timing when trading BAC using the CDS chart.

Apr 28 04:37 PM

[Chkrazer:]

what are you talking about ? what does all this likely mean ?

Apr 28 06:54 PM

[speeddaimon:]

Wow, thanks to everyone that answered my question. This is why I come to seekingalpha. It seems I learn something new every day.

Apr 28 06:55 PM

[Speakeasy:]

Lewis will not get a golden parachute. Bofa was unique in that in 2001 Ken Lewis removed employment agreements, He along with sr. management serve at the pleasure of the board just like any other employee.

Apr 28 09:38 PM

[CJJ:]

My shorts are going to be on fire strikes again. There is absolutely no reason for a business in the USA today to be publically traded if they do not need to be. Not one of the Aholes shareholders was saying a word as this stock quintupled. This arrangement was constructed by the government. Why don't BAC shareholders ask themselves what the stock price and the gernal stock market would be looking like if Lewis did quash the Merrill deal.
Shareholders own the business, blah, blah, blah. Spare your tired line along the "Constitution is law of the country".. Again a capitalism crock of s...For all the conspiracy theorists and contrarians that run rampant here on Seeking Alpha and none talk about the fact that the common shareholder of a company is worthless. You have about as much chance to sway a Presidential election.
So if Ken Lewis is not voted out tomorrow can we have the loudest whiners in the room(akin to today's republicans) admit that just because they say they are the voice of the majority really loud that they aren't actually the majority.
I'm for freedom of opinion not propogation of stupidity and whining.

Apr 28 10:39 PM

[Suncatcher:]

Could you somehow rephrase this whole post, I don't get any of it.


On Apr 28 10:39 PM CJJ wrote:

> My shorts are going to be on fire strikes again. There is absolutely
> no reason for a business in the USA today to be publically traded
> if they do not need to be. Not one of the Aholes shareholders was
> saying a word as this stock quintupled. This arrangement was constructed
> by the government. Why don't BAC shareholders ask themselves what
> the stock price and the gernal stock market would be looking like
> if Lewis did quash the Merrill deal.
> Shareholders own the business, blah, blah, blah. Spare your tired
> line along the "Constitution is law of the country".. Again a capitalism
> crock of s...For all the conspiracy theorists and contrarians that
> run rampant here on Seeking Alpha and none talk about the fact that
> the common shareholder of a company is worthless. You have about
> as much chance to sway a Presidential election.
> So if Ken Lewis is not voted out tomorrow can we have the loudest
> whiners in the room(akin to today's republicans) admit that just
> because they say they are the voice of the majority really loud that
> they aren't actually the majority.
> I'm for freedom of opinion not propogation of stupidity and whining.

Apr 29 01:22 AM

[huskerbob:]

I think he's saying that the shareholders didn't seem to mind the deal as the stock was rising, but now complain about that Lewis abrogated his responsibility, therefore they need to vote him out or shut up.
In defense of the complainers, he did have an obligation to pass on the deal or present an accurate picture of the deal to the shareholders.

Apr 29 02:44 AM

[User 305589:]

Sorry Tyler,
but the the CDS market is likely the most distorted of them all - and that for the past 12 months or so. It has become the playing field (or rather the killing field for that matter) for all sorts of hedge fund players and banks to bet on declines and bancruptcies of companies. Since many stocks are overshorted or cannot be legitimately shorted players have turned increasingly to CDS markets as a venue - btw, with very real economic implications. The CDS market has started to actually really bankrupt companies. Imho, this giant , parasitic casino should not just be 'regulated', it should be shut down asap.
Of course, the GOldmans and JPMs of this world will fight this tooth and nail as it is a major source of their revenues and profits.

If the cds market was 'rational' as you claim - how come that a fortress balance sheet company like Berkshire Hathaway was rated riskier than the debt of a country like Vietnam???
Just to name one of a gazillion of similiar examples.

No, Tyler, the CDS market these days would be the last one I would look at to get any sense of rational expectations.

Apr 29 04:35 AM

[Tydown4fun:]

It doesn't mean anything. Just another bit of meaningless data from some wall st nerds who believe there is some correlation between phases of the moon and reality.

Apr 29 08:01 AM

[User 305589:]

I would go as far as to suggest that there is much more correlation between phases of the moon and stock prices than cds markets and reality. Or wallstreet analyst gibberish and reality.


On Apr 29 08:01 AM Tydown4fun wrote:

> It doesn't mean anything. Just another bit of meaningless data from
> some wall st nerds who believe there is some correlation between
> phases of the moon and reality.

Apr 29 08:18 AM

[Bar Lock:]

If Merrill swaps are more at risk and the big BofA shareholders are looking to replace Ken Lewis, then I'd say the stock of John Thain is on the rise as a likely replacement for Lewis.

Apr 29 12:04 PM

[CJJ:]

Most of the commentors and the author basically made a contention that Ken Lewis is as good as done and should be gone as CEO of BAC. Well guess what, as with most posts Tyler Durden makes, its a whole lot of conjecture coupled with little fact.
He whined and he cried and he made it as if he is the majority. The results speak for themselves and he is a crock. So watch who you blindly follow.
Just because you look at yourself as a contrarian doesn't shield you from being a mindle sheep.

Apr 29 04:40 PM

[Northstar10000:]

I just want to know where the change is. We are still pushing money out to the Corps with pull. The government is still getting dumber.
We are still in Iraq and getting deeper in Afgan.. We are getting deeper in debt at the federal level. North Korea thumbs their nose at us, Iran continues to do their nuke thing. Unemployment continues to rise. I see a bush 3rd term here. Obama is bush with a vocabulary.
Hillary said we were going to have change by using smart diplomacy.
Condi could at least speak Russian. Obama burried her at State so she can take a fall when something blows up. Oh one other thing, I thought we were going to get Bipartisn change. Repubs been shut out of every decision. I understand that Fannie Mae got bonuses. No one said a word about that. No Hope No Change

May 01 07:19 PM