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Peter Tchir
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Peter started TF Market Advisors in 2011 as a platform to trade and provide market information. The trading strategies are macro, but the direction and value decisions are based on insights into the credit markets. The firm’s commentary has been gaining respect and Peter has become a recognized... More
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  • Central Bank Rallies And How Big Is IG9?

    Nothing like having the first "central bank put" rally before the U.S. is even fully awake. Spanish 10 year yields got as high as 6.13% and then bounced back to almost 6.05%. That rally is ending already as there is no real indication of central bank intervention and liquidity is extremely thin.

    The 5 year part of the curve is getting very interesting as well. Spanish 5 year bonds were briefly above 5% and seem destined to head back that way at any moment. That is another significant psychological level and shows how little the LTRO is able to accomplish on a long term basis. These bonds were yielding less than 3.5% on March 1st. Spanish 5 year bond yields are now also 22 bps higher than Italian 5 year bond yields - showing once again that CDS was correct and was not as manipulated as the bond markets were. The CDS curves never had Spain trading tighter than Italy. The bond market did, but that was a function of the fact that Spain has less debt, so was more easily manipulated with LTRO purchases.

    So futures have already trading in a 10 point range, from an overnight low of 1,360 to a high of 1,371. I think we are near the end of this brief "hopium" bounce. There is a lot of data coming out that is important to watch. I don't think we will see a "bad news means QE" trade today, so bad news will actually be negative for stocks. Maybe we will be surprised to the upside (and even meeting expectations could probably be considered a surprise) but I doubt it. I think we will breach last week's intraday lows this week, with far more risk of a cascading sell-off as investors long and "hedged" with the "Bernanke put" start to question the strike price and take some risk off the table.

    Fixed income markets generally seem quiet. So far they have behaved well with debt further from the epicenter of Spain and Italy holding on to value. Big questions remain on what the technicals will be from the whole IG9 trading "scandal". I think IG9 will underperform, HY CDS will outperform, but it is difficult to figure out. This is a big deal to the market because of the size of IG9. In spite of the impression that it is an old, off the run, stale index, it is huge and this is not a new phenomena.

    The Gross Notional of IG9 outright and IG9 tranched are over $1.5 trillion. That is almost half of the gross notional outstanding of the top 20 index positions. Why that hasn't been cleaned up is beyond me, but it should catch the eye of regulators. IG9 has the largest net position and IG9 tranches have the 3rd largest net position. How much of that sits in "correlation" desks where they have bought the tranche and sold the index? That is probably where a lot of the risk sits, and while not likely to be a ticking time bomb, might be something worth looking at for the industry as a whole. I would be nervous that so many of the biggest outstanding positions are off the run indices and directly linked to tranche trades. Even on high yield, we see some old indices, which had more active tranche markets, pretty high up on the net exposure list. The size of the tranche market, the amount of "correlation" hedging, and just the absurdity of huge gross notionals versus net notionals should be examined. If this was an exchange traded product the "notionals" issue would go away. The position of tranches vs index is another one that seems particularly large, based on the fact that the tranched and untranched indices seem to show up as "pairs" in this list.

    So, whatever the outcome of the JPM positions, expect some big potential moves in CDS, particularly if they start unwinding (which I doubt they will). And if you get big moves in CDS, don't expect the cash markets to be totally unaffected. My gut tells me that the biggest winners will be high beta high yield names, and the biggest losers will be very low beta IG names.

     

     

    IndexFormatGrossNetContracts
    CDX.NA.IG.9Untranched886,177,028,846148,229,875,4782,935
    CDX.NA.IG.18Untranched243,774,361,36667,089,269,7662,316
    CDX.NA.IG.9Tranched609,440,469,08063,082,325,10010,002
    DOW JONES CDX.NA.IG.7Tranched152,282,183,32738,695,623,7001,029
    DOW JONES CDX.NA.IG.7Untranched130,591,505,74437,842,566,204373
    CDX.NA.IG.8Untranched193,313,783,60931,335,669,903559
    CDX.NA.IG.17Untranched317,643,529,78830,541,080,3503,342
    DOW JONES CDX.NA.IG.6Tranched102,009,867,67028,525,773,700860
    CDX.NA.HY.8Untranched93,679,364,03725,401,789,435327
    CDX.NA.IG.8Tranched142,941,778,87523,715,269,7901,474
    CDX.NA.IG.16Untranched191,949,082,94523,415,789,9261,951
    DOW JONES CDX.NA.IG.6Untranched66,286,359,58319,556,937,501232
    CDX.NA.HY.17Untranched102,005,286,55519,508,317,0724,164
    DOW JONES CDX.NA.IG.4Untranched50,403,077,34216,459,913,060176
    CDX.NA.HY.9Untranched55,375,980,79616,044,568,755267
    CDX.NA.HY.10Untranched69,596,217,28715,374,337,256597
    CDX.NA.IG.15Untranched181,886,202,70614,925,126,001948
    CDX.NA.HY.8Tranched52,436,383,65313,907,830,181948
    CDX.NA.HY.18Untranched43,296,231,83613,477,535,1641,540

    Apr 16 8:24 AM | Link | Comment!
  • Fixed Income Allocation Update And Trading Summary

    In our initial Fixed Income Allocation strategy, we were mainly in cash with our long positions in high yield, leveraged loans, financials, and some inflation linked products. Since then, we adjusted the mix by at first selling some high yield to buy treasuries. We then moved out of treasuries, added back the high yield we sold and actually bought more. Since then we have scaled back on high yield as the fact that the HY ETF's moved (however briefly) to a discount to NAV is a big warning flag for us.

    The 3 questions we thought were key drivers for the allocation at the time were:

    How Strong is the US Economy?

    Our base case view is that the recent data (jobs in particular) was overstated because good weather made everything easier (unlike a typical winter) and seasonal adjustments are still skewed from the financial crisis, but the economy is doing okay. So in an okay economy treasuries sell off a bit, but with more QE is still on table the sell-off is muted, and credit spreads do well.

    Is the next round of the European Debt Crisis already here?

    Our base case is that weakness in Spain and then Italy drive another round of fear into the system. Talks will shift from firewalls and austerity to PSI across the board. A realization that debt needs to be cut will take over. Banks will be made to pay for their bad lending decisions and will effectively be charged for their dependence on central bank financing. This will help treasuries more than any other scenario, and will be bad for spread products, though the market is likely to punish European credit spreads far worse than domestic ones, with banks the big losers in Europe. We think the market here will be more resilient as people have seen a separation of the US from Europe's woes.

    How will China Land?

    This still seems like a coin-flip to me.

    Translating the views into allocation:

    With our base case views we think there will be an opportunity to buy treasuries at much higher yields during this quarter or to buy credit products at a somewhat higher yield. That is our rationale for remaining heavily in cash. We have concerns that inflation is creeping into the system and all the money printing may have started to achieve enough asset price inflation that we get some more hawkish Fed comments in the near term. The opportunity cost of sitting in cash is surprisingly low.

    Performance:

    Less in high yield and more in treasuries would have been a good thing. The decision to sell some high yield and allocate into treasuries was good and generated some profit to offset the long in high yield, but we were too quick to take profits and to re-allocate into high yield. Tips are up nicely since the recommendations. Leveraged loans are down a bit, but net of carry close to flat. Financials have widened on a spread basis but have been supported by the move in treasuries.

    Current Allocations:

    15% to Leveraged Loans.

    There has been no change to the thesis or position.

    15% to high yield bonds.

    This got reduced to 10%, taken up to 20%, and remains at 15%. It will go lower with continued problems in Europe and we will look to add more here except in the case that the ETF's in particular go back to trading at a discount to NAV. The "arb" activity could put pressure on the entire market.

    5% to US Financials.

    We remain comfortable with this allocation. European bank spreads have more direct support from LTRO than sovereign debt, or the equities of those banks. They will widen, but in most cases not as much as last year. In any case, even that spread widening is less likely to impact US financials as the market has realized the US banks have far less exposure to Europe than many thought. Continued weakness on the job and housing fronts would be a cause for concern.

    5-10% to TIPS:

    I continue to like these, and the corporate or financial CPI bonds offer good value relative to even TIPS.

    5% to Emerging Markets:

    Local currency bonds are down, foreign currency bonds are up since the start of the month. Had this as 55-10% and for now move back to lower end of the range. A mix of local and foreign still seems the right trade, as scenarios that affect the currency either way are still in play.

    5% to down and dirty RMBS/CMBS.

    Looking to add to this, but still no easy way as the idea is at the more distressed end of the range, and it is harder to find a could vehicle to play in that space.

    45-50% in t-bills:

    Continue to stay in t-bills. I hate the idea that many money market funds have been creeping up their allocations to European banks. I'm reasonably comfortable with them, but wouldn't take the risk for a few bps at the short end of the curve.

    0% to Investment Grade

    Apr 15 8:48 PM | Link | 2 Comments
  • The Weekly T Report: Volatility Is Back And Look For More Weakness

    Volatility is back. The S&P moved more than 1% on 4 of the 5 days, had the biggest down day of the year, and even the least volatile day was a 0.7% move.

    Back on April 5th, we saw a warning sign in the credit markets that the bid/offer spread for European CDX indices was widening. This has extended into investment grade indices in the US where not every dealer maintains a ½ bp market anymore. That lack of liquidity, which has also been a factor in the sovereign debt market (especially for Spain) has hit the equity markets as well. We are seeing bigger moves on less information. I believe that this volatility will continue in the short term and that we will see at least one big capitulation to the downside in equities. The Nasdaq seems more susceptible to such a move since it is still trading above the 50 day moving average.

    European stocks underperformed. That is likely to continue. The problems in Spain and Italy will be directed much more towards European institutions, and banks in particular this time around. Generically I like being long US financials versus short European financials, because although the entire market will get dragged down by renewed problems in the Eurozone, the correlation will not be as high as last time.

    The Whale

    It is hard to talk about trading last week, particularly in the credit markets, and avoid the big JPM CIO trading story. I think that as details come out, the size of the position has been blown out of proportion. It will be much smaller than some of the headline numbers, and there will be long and short components and it will make a lot of sense both from a specific trade standpoint and also from a JPM business risk standpoint. I continue to believe that it is more in IG9 tranches, with hedges in HY, also possibly in tranches, and some curve trades.

    In any case, the trade is still large and should raise concerns for regulators. The too big to fail argument is one obvious question that needs to be addressed. Is this trade for the "bank" or for the "investment bank"? For those looking for a much clearer segregation of the businesses run by JPM, this trade will be something they can point to. It is coming to light in a period of relative calm for the market, unprecedented support for banks from the Fed, and general disdain of bankers from the public in an election year. That could be what is needed to ignite a push towards a return to Glass Steagall or some other new legislation.

    It may also be the straw that breaks the camel's back in terms of pushing derivatives on to exchanges. This is something that should have been done immediately after Bear Stearns if not before, but for a variety of reasons (bank lobbyists) has been avoided up until now. The regulators should examine the whole chain of these trades. Who bought them and what they did with them? How many billions are sitting in mark to model books as opposed to having been traded? How much smaller would the trades been, and how much less would any distortion be, if every trade was on an exchange with a standard initial margin requirement and variation margin?

    Regulators need to examine the whole series of trades, not just what JPM has on their books, and a renewed effort to develop proper exchange traded CDS needs to be done. None of the arguments against this have much credibility, as mark to model carries risk, and if the market has to shrink to support proper margin requirement, who really is hurt?

    Jobs and Housing

    The jobless claims this week were bad, plain and simple. I have seen arguments that more people quit, so it is "good" jobless claims, but since I have never seen a report detailing how many people were laid off but not eligible to make claims (which I think is a growing proportion of the workforce), I will largely ignore that positive spin.

    Virtually every data point signals that the January and February reports overstated the real long term improvement in the economy. The jobs number is important, but mostly for what it could have meant to housing. Ultimately, we need the housing market to rebound to see the economy as a whole benefit, and that data lagged the job data all year long. The hopes were that somehow the jobs data was correct and housing would catch up. Now, it seems clear that housing was correct and jobs were overstated, so we may have a lot longer to wait for that housing recovery.

    Without a housing recovery the market will struggle to go up much from here. It is too important of a sector, so it is hard to be bullish at these valuations with no real support from housing.

    China and Europe

    China disappointed this week. There is no landing yet so it is impossible to determine whether it will be "hard" or "soft". I am leaning more and more towards hard, as I find it hard to believe the weak data reflects the whole truth, and there seems to be enough real concern about inflation in China and the state of the banks that more easing may be slow to come, and the pressure on the banks and property may come far faster than any new easing policy can stop.

    Spain is in trouble. There is no liquidity for their bonds. Spanish 5 year and 2 year bonds now trade with higher yields than Italy. That was always the case in CDS, but the LTRO money and much smaller Spanish bond market had distorted that relationship in the cash markets. It is an ominous sign that those spreads have moved so much - as it shows that not only is LTRO no longer working for sovereign debt, but that the banks own too much and are better sellers if anything. The focus is on the 10 year, and the fact that it looks set to breach 6%, and that is bad, but this rapid normalization of the shorter end of the curve is possibly even more important.

    Any fund that purchased these bonds leading up to LTRO2 is now facing a significant loss, and the lack of liquidity is scary. I do NOT think the ECB will step up in a meaningful way this week. The EFSF is supposed to take over secondary market purchases, and it is shameful that it doesn't seem set up to do that yet, but there are other reasons that the ECB may not buy bonds. It is close to what it viewed as its limit for SMP, which leads to the obvious question of why didn't they sell some bonds in the past month when the markets were hot? More importantly, the countries may not want the ECB to buy bonds if they are seriously considering a PSI. The ECB holdings were incredibly disruptive during the Greek debt negotiations and are the primary reason the restructuring has been a failure (any restructuring where the new bonds trade at 20% of par has to be deemed a failure). So don't get too excited about possible ECB intervention.

    There is some talk about Eurobonds (again) and various other possible programs to unite Europe, but I don't see that happening any time soon. I think the strangest thing is that Spain agreed to 3% deficit target in the future. I never believed it would happen, but healthcare costs aren't part of the Spanish deficit. No, in Spain, healthcare is largely a "regional" issue. That is why the regions are in such deep trouble. It is clear that no country in Europe counts for anything in the same way, and any of these "targets" is easily manipulated with some simple changes, and the use of "guarantees" as opposed to debt.

    The Spanish debt load is looking like a "black hole". You start with what seems a manageable sovereign debt to GDP ratio, but finally gravity is starting to pull regional guarantees, bank debt guarantees, off market swaps, and banks full of unrealized property losses, into the same spot. That "black hole" is not manageable and as realization hits, Spain can choose to struggle for years and capitulate down the road when things are much worse (like Greece did and Portugal is in the process of doing) or they can stop the nonsense and work out a proper debt restructuring plan now. This will hit European banks harder than any other sector.

    The Outlook

    I expect lower equity prices at some point this week. We may open with a bounce based on some IMF announcement or some ECB intervention, but this is why I think one more downleg:

    · Spain in particular, and Italy to a less degree will weigh on the markets, dragging European bank shares down, and affecting the rest of the market

    · Realization that the data in the US has been decidedly weak over the past month will finally overwhelm the market and those clinging to memories of January and February NFP

    · QE in any of its myriad of forms is further away than the market currently priced in, the reaction to Yellen's comments shows just how critical QE is to stock market valuation, but it is NOT critical to the economy and those concerned that it is actually hindering the economy are becoming more vocal, so QE expectations will take another hit

    · Credit markets are becoming more volatile, less liquid, and not just in CDS and for banks, but across the board, this has been a consistent leading indicator of further weakness

    · Weak data globally, and not just in the U.S. has been ignored so that will come into play making any sell-off that much worse

    · AAPL. I have no real reason to dislike AAPL, but lots of "fast money" seems to be sitting on big profits and could choose to sell, and the price seems to have outrun what is actually being accomplished, it seems like it is being valued on I-Phone 7 sales, I-Pad 5 sales, and other future earnings while ignoring that everywhere I go, nothing is sold out or difficult to get - like it used to be. For this reason, I like Nasdaq to underperform. Also, if big companies start spending billions of their cash hoard in what might be viewed as a frivolous manner, then valuations for the entire sector can drop quickly.

    As always we will see what the data comes up with, or whether any believable political, central bank, or supranational institution actions develop to change the view. I don't expect anything dramatic, but could certainly see the S&P 500 pulling back towards its 100 DMA, now that is has breached the 50.

    E-mail: tchir@tfmarketadvisors.com

    Twitter: @TFMkts

    Disclosure: I am short QQQ, SPY.

    Additional disclosure: I am long HYG, but positions change

    Apr 14 7:54 AM | Link | 11 Comments
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