The US credit default swap market remained characterised by further widening throughout the course of last month, extending the gradual decline in creditworthiness that began in late summer 2009, according to a report by GFI Group.
Risk aversion trades appear to be gaining increasing traction among credit derivatives markets, with the predominant bias of the corporate market remaining to the upside.
Sovereign contracts sparked by a host of weaker-than-anticipated macro data in the US are also beginning to flag increasing concern, with the US sovereign five-year contract moving above 30bps towards the end of last month from the low-20bps region at the start of November.
In corporate markets, financials remained the most active sector in the US last month, as concerns persist over the financial health of incumbent credits. Concerns seem to be centred around the fear that additional capital may need to be raised, should non-performing commercial property loans begin to weigh on balance sheet metrics and earnings. Insurance was the most active sector in the US last month, with banks, financial services and real estate all seeing good volumes.
Even segments of the market that have typically been considered more defensive in nature are beginning to reflect rising concerns, although the drivers of such concern are subtly different. Where Hershey and Kraft Foods sparked greater focus on the possibility of additional corporate activity, other elements of the food products sector have begun to discount a significantly greater probability of sector consolidation. Against a backdrop of robust earnings there is little other explanation for the pronounced shift in credit market views, with names such as Campbell Soup, ConAgra Foods and HJ Heinz moving out aggressively month-over-month.
In Europe, activity was heavily focused on financials during November, with both the sub and senior CDS indices seeing a pick-up in activity, as both edged wider. The main investment grade iTraxx itself was also wider, though to a lesser extent, says GFI Group.
Financials captured the lion’s share of attention in the single name space. The banks and insurance sectors were also amongst the biggest wideners, with increasing concern in the CDS market reflecting indications from the ratings agencies that several global commercial banks still have far to go to restore their capital base. Widening in the European sovereign CDS over the month also highlights the increasing inter-dependence of the banking system and the broader European economy.
The transportation sector also pushed wider, with British Airways leading the way on good volume, as management hammered out the finer details of its proposed merger with Iberia. Whilst the initial reaction to the merger, announced early November, was taken positively by both credit and equity markets, talk of strikes, concern over BA’s pension deficit and wrangling over the registered location of the merged entity has taken the sheen off somewhat. BA’s CDS remains significantly wider than its major European peers.
Elsewhere, the defensive sectors all benefited from increased risk aversion, with oil and gas, utilities, food producers and food retailers all narrowing, relative to the more cyclical sectors. Cadbury saw decent volume, bucking the general narrowing trend of the defensive names on renewed M&A interest.
In Asia, Japan remained far and away the most active region from a corporate perspective, with the Aiful/Japan Airlines overhang continuing to spark activity among corporate CDS traders. Discussions as to whether debt restructuring plans at Aiful and Japan Airlines constitute credit events for the purposes of CDS settlement have been weighing on Japanese corporate CDS for some time now. Concerns are predominantly that, should missed interest and principal payments not be deemed to be credit events, the existence of corporate CDS markets in Japan may be called into question.
Auto manufacturers and banks were among the more active sectors in Asian trade, with Toyota Motor, Honda and Bank of Tokyo-Mitsubishi among the more active single-name contracts.
November in the sovereign CDS market was characterised by a convergence of spreads between emerging markets, particularly the commodity based economies, and the developed markets. There was aggressive widening in the US, Japan and across Western Europe. The UK and Greece led the way higher. Greece’s CDS is now priced substantially wider than both Mexico and Brazil, as investors question how the Greek financial system will cope when the ECB removes cheap funding from the Euro zone in 2010. Eastern Europe was also wider, though not to the extent of its major trading partners in the West.
Russia and Turkey commanded the focus of the region, though Ukraine’s sovereign was also active as the nation, dogged by defaults of quasi-sovereign corporations, maintained its government debt rating at Moody’s. The nation also managed to successfully renegotiate a potentially crippling gas supply contract with Russia. However, the CDS was still out a third over the month.
In South America, Mexico did not escape a well-flagged downgrade at Fitch, after the lower house approved the spending portion of the 2010 budget, calling for a USD244bn outlay. The Mexican CDS was unfazed, narrowing ten per cent on the month.
Finally, at the end of the month there was a significant pick up in interest in the sovereign CDS of the Gulf States, particularly Dubai, after its wholly owned holding company, Dubai World, announced that it was suspending payments and seeking to extend maturities on its debt. The Dubai sovereign CDS widened 100 per cent on the news to 650bps; Abu Dhabi’s CDS was also out 76 per cent to 175bps, whilst Qatar pushed out 30 per cent to 120bps.
