CMBXs Acting Hairy Again?
A: Take a look at what is going on with the CMBXs lately. This entire rally once again followed the lead of credit, which came in big time from monstrous stimulus and targeted programs by the fed. It seems logical that just as credit markets overshot to the downside last year, driving fear levels to insane levels, they could have overshot to the upside in reaction to fed policy. Mish is correct that corporate bond spreads are key to this rally, as are some other credit indicators. Keeping your eyes on LIBOR, TED spreads, CMBXs, ABXs, and CDS spreads too will help paint a very good picture of coming change. Its worth keeping an eye on. These are the same indicators used when discussing the threats we faced in October 2007. For now, its just too early to tell if its a sign of another wave that ultimately feeds on itself.
CMBXs are a group of indexes made up of 25 tranches of commercial mortgage-backed securities (CMBS), each with different credit ratings. The pricing is based on the spreads themselves rather than on a pricing mechanism.
Credit came in huge as this fed engineered bank recapitalization period kicked into high gear - a ripe environment for stocks surging after a destructive 60% plunge. Therefore, the concept that "Stocks Lag the Credit Markets" written about back in February of 2008, still applies. For CMBXs, they improved as credit improved.
But now take a look at some of the moves lately according to the MARKIT CMBX indexes:
This can all feed on itself, especially after stocks posted 50% gains in five short months. Should these indicators start getting hairy again, it could cause a ripple effect flight to safety into cash and treasuries. If the trend continues, and you see corporate spreads widen (partially because treasury yields are falling), TED spread rise, CMBXs start a cliff dive, etc..fear levels will no doubt rise further feeding the cycle. So its worth keeping your eyes on as Mish suggests!
The end effect could be temporary distortions in debt markets causing the inability or difficulty in continued capital raising for those entities that are severely pressured - CIT, Corus, and Colonial BancGroup come to mind as 'toxic loans may push 150 more banks to the point of no return'. While Armageddon seems off the table as the min-atom bomb test in Lehman showed us what could happen if a big boy fails, a less severe disruption can still occur and traders will react accordingly. Will we see a natural adjustment after credit improved so much or could it be a sign of something else? Its too early to tell right now, but worth watching.
PS: China, which led the global equity market surge mainly in response to stimulus, is showing some clear signs of weakness lately. I wonder if this is having an effect as well. China's Shanghai is down just under 7% for the week after rising almost 75% year to date.
Posted by In Debt We Trust
Fri Aug 14th, 2009 12:29 PM
Very prescient. Thanks for bringing this up.
I will say also watch the CDX.EM index as well for emerging markets. It looks like it's going to turn soon too.
Posted by Noah
Fri Aug 14th, 2009 12:34 PM
yep, watching also IG & HY corporate bond markets, the US dollar, and other indicators too.
i wonder if moves may be more technical in nature, than a sign of a another tsunami wave though. credit improved so much that we can see an adjustment for technical reasons. will watch that emerging markets index though.
see china?
Crazy how FXP doesnt seem to do what it is designed to do in terms of being the ultrashort china etf - no shock there.. these things all suck
Posted by In Debt We Trust
Fri Aug 14th, 2009 12:53 PM
Noah,
China is its own world. Even though they face asset deflation more serious than the West, the authorities have the luxury of being a police state. The release of information can - and is - being brutally suppressed.
FXP is also a levered ETF. Which has its own set of problems. I've been patiently waiting for the options volume to improve so I can pick up some otm puts on the levered bull etfs. It seems the only way to play these things is on the inverse side off the decay.
Anyway, for something more CRE related:
http://www.zerohedge.com/article/walls-streets-continuing-syndication-its-own-secured-debt-equity-markets
Posted by Noah
Fri Aug 14th, 2009 01:08 PM
no your right...the way to play is to short the inverse and get the decay working for you.
totally right. will volatility ever hit the levels post lehman? not sure, but certainly we can have a spike in vol
Posted by In Debt We Trust
Fri Aug 14th, 2009 01:36 PM
Will vol spike to post-LEH levels?
I doubt it. Last year we had (in no particular order):
a) Lame duck Bush - if anyone doubted the man's intelligence, it became increasingly obvious the man was clueless about the economy (and a lot of other things). Paulson and Bernanke basically ran the country from August onwards.
b) Paulson kept changing his mind - gimme the bazooka and I'll never use it; no more bailouts; TARP will be used to buy bad loans; oh wait on second thought. . .
c) Icelandic banking collapse - more of a European thing but the repercussions hit the UK and Germany hard.
d) Lehman bankruptcy - CDS/CMO chain reaction in money markets that resulted in forced liquidations.
We don't have any of those things anymore. Now its virtually assured that bad actors will be bailed out. I think we head into Japan 2 now instead of Great Depression 2.
Posted by MeekSheep
Fri Aug 14th, 2009 11:11 PM
Japan 2? The carry trade will become the staple of the mutual fund world... Nah. However, good piece. Couple of questions though:
I've been meaning to ask if the median price up is more of a reflection of some of the middle market moving as opposed to the lower end. Housing, that is.
If CMBS falls which will bring down REITs and more than likely banks will there be another dislocation between certain bond classes?
Posted by mh23
Sat Aug 15th, 2009 08:23 AM
Excellent post. I too read the Mish piece and as usual, found it interesting. On Thursday morning I bought TLT in anticipation of a market correction, as well to add to that part of my portfolio that will reflect the consequences of a strengthening dollar, that we talked about last week or two. As you know, on Thursday the market did not sell off, yet the Treasury auction went well. This was a clear indication to me that many people do not believe in this rally, and that they may share the concerns that you articulated.
I have noticed that JNK and HYG are stetting to sell off, and if that trend continues into higher classes of bonds, that would be a another clear sign that the rally is losing ground.
Posted by Noah
Sat Aug 15th, 2009 09:37 AM
meek - well, if the mini dive turns into a cliff dive it could cause a freeze up for cmbs and the value they are carried at on banks BS will certainly be affected. However, we must keep in mind the runup over the past 5 months as credit improved HUGE. So, whether its technical or a sign of soemthing bigger is just too early to tell. Certainly it could see a technical adjustment that doesnt turn into anything more. But we all know commercial is a threat out there.
Its best to keep an eye on all these indicators - if you see corporate bond spreads widen, libor rise, ted spread rise, and these cmbx's and abx's cliff dive all at same time, CDSs widen, chances are credit is telling a story about a possible mini wave ahead. After seeing stocks runup huge, you will see the smart money leave and short positions rise as bets stocks will once again follow credit. Youll see dollar strength, and that will pressure stocks. Youll see treasuries rise. It feeds on itself so it could affect the fed engineered recap environment and cost of money will increase by the markets reactions and those needing funds to rollover and for operations, will see much bigger pressure.
Posted by Noah
Sat Aug 15th, 2009 09:41 AM
mh23 - i think its a good buy. I think pressures in coming years will favor treasuries and constrain yields as Lutnick stated a few months ago.
I dont buy these auction results because a week later it is discovered that the fed is buying the paper from primary dealers right back using its QE policy. They have 50Bln left to spend on treasuries for next 6 weeks. But time will tell if they did buy it back as they did over the past week or two. Yep, following HYG is one way to keep track of high yield debt markets and if they start to blow out.
Stocks may start to adjust if these credit indicators all worsen at same time, but not until its clear will you see the real effect on equities
Posted by mh23
Sat Aug 15th, 2009 10:25 AM
Good point Noah, I neglected to consider the Fed's purchasing of Treasuries. I like the TLT more than the UUP because they move in concert, more or less, except that TLT moved higher to the up side when fear was in charge back in March. In addition, it has a 4% yield, which in this environment is not bad.
I saw the Lutnick piece as well, and it motivated to hold off on adding to my Silver position, which I am still long. According to Mish, deflation is still very much in play and will be for quite a while, and Lutnick argued that inflation, to the extent it arises, will be a 2011/2012 problem. This rally has been one on very weak volume, and while it could continue for a while longer, I am not buying any equities.
I agree with you on FXP, I exited that position last week, it just does not reflect the underlying reality. If I understand you, you are saying that one can achieve the desired reult by shorting the FXI?
Posted by Noah
Sat Aug 15th, 2009 11:20 AM
yes but always use caution with these etfs...the point of shorting the inverse is to get the constant decay working for you, not against you. they reset daily and they bet on volatility too. in the end, time is an enemy
Posted by In Debt We Trust
Sun Aug 16th, 2009 06:50 PM
Noah or Jeff,
Are there any comparisons or lessons that you can draw from the Miami market and extrapolate to New York City?
Things are apparently picking up again in south Florida:
http://www.nytimes.com/2009/07/29/business/29miami.html
Posted by Noah
Mon Aug 17th, 2009 08:46 AM
all of a sudden this becomes a timely post. go figure.
IDWT - not yet, Miami was a different animal, highly speculative, not nearly the diversified and quality of buyer pool, tons of investors/flippers, and not a centralized finance hub like that of NYC. Plus, NYC is 70% coop and that in and of itself curbed speculation a bit.
while natural market forces perk up miami distress sales, we are not close to the distress levels seen in miami that would justify pent up demand to scoop up value. time will tell if we get there. if we saw our markets down 40%-45% across the board, and not just high end, then yes you would see sales pick up big time