Markets update - Credit - Misery loves company

"Only the educated are free."
Epictetus

Misery loves company, and this quarter, there has been plenty, in nearly all asset classes.

We know from the last few credit posts, that the ongoing European debt crisis, led to liquidity concerns. As solvency issues became more acute, credit spreads started widening significantly and with liquidity deteriorating, we have had a shut down in effect of the unsecured term funding market for banks in the process. Poor economic data with US revised GDP figures, US and European downgrades, following the debt ceiling debate and the European game of kicking the can down the road, finally leading to equities taking the plunge, redemptions/liquidations in commodities, Emerging Markets, catching up as well, with various currencies impacted in the process and of course credit wasn't really spared either.
It is going to be another long post. Many important points to go through.

We will start with credit with a recap of what happened in the third quarter and what to expect next.
Societe Generale and its latest Credit Weekly published on the 30th of September sum it up nicely:
"New quarter, same problems: There’s no drawing a line in the sand as we enter Q4 after a disastrous third quarter for credit. The ratification by the German parliament of the EFSF helps at the margin, but it was what the market needed…. in July. We’ve moved on, and the politicians remain well behind the curve. With a leveraged/further expanded facility looking unlikely at the moment, we suspect the market will continue as is. That means low turnover, poor liquidity and pockets of supply where issuer curves get repriced aggressively. The iBoxx at B+316bp with 118bp of widening in the quarter still leaves us unable to answer what the next big three digit spread move will be. There might be some temptation to add, but we would stay sidelined until we get some clarity. The price action at the
end of the week serves to highlight how jittery and depressed the
market remains. It could be a long run into year-end."

So you can expect more of the same unfortunately given current dislocation in the credit space, where any new issue which is able to come to the market, leads to a vicious repricing of the secondary market:

The lowest level of issuance in September since 2001 in Investment Grade credit (BBB- minimum).

We also know from previous post that apart from covered bonds backed by pools of prime loans, the market of new issues for bank remains a concern.
But, this week, on Thursday, Deutsche bank came to the market with a 2 year Senior Floating Rate Note (FRN) having to pay significantly up to reopen the senior market. For instance, Deutsche Bank issued a similar two year FRN in February at 3month Euribor + 40 bps. This issue was trading at around Euribor +70 bps in the secondary market, yet they came to the market this time around paying Euribor +100 bps. But, on Friday, ABN Amro Bank tested the market for a similar 2 year Senior FRN, having a very close rating profile to Deutsche Bank (ABN Amro Bank - Aa3 / A / A+ / A High all stable outlook), this time around pricing thoughts were Euribor + 130 bps. 30 bps more. What a difference a day makes these days...

In terms of issuance, corporate credit markets have had their worst quarter in Europe since the demise of Lehman.
According to Ben Martin from Bloomberg on the 30th of September:
"The Markit iTraxx Crossover Index of credit-default swaps linked to 50 companies with mostly high-yield credit ratings climbed more than 400 basis points since July 1, the biggest rise since the fourth-quarter of 2008 when it surged 456 basis points, according to data compiled by Bloomberg. Relative yields on investment-grade company bonds have increased the most on record, Bank of America Merrill Lynch data show. Yield spreads on investment-grade bonds have surged 140 basis points since the start of the quarter to 309 yesterday, the EMU Corporate index of 1,763 securities shows."

And from the same article, Jim Reid, head of fundamental strategy at Deutsche Bank AG in London commented:
"The stats speak for themselves. You’ve got a situation where if the European authorities drop the ball it could be worse than 2008."

And my good credit friend to comment on Friday:
"The European Credit Market did not really perform and is very weak again today following both the European inflation figures at 3% and the understanding that the overall (IG Main Europe is trading at 198 bps, higher than 3 days ago).

So the outlook is still not positive, and it will not be as long as credit investors are ready to pay that much to remain short and/or insured against the risk of default. The actual cost is about 8 % for junk rated companies and 5% for subordinated debt (LT2 … not Tiers 1 for which there is no CDS and the only hedge is equity)."

And in relation to issuance, here is what Societe Generale had to say in their report:
"The French are close to being funded – any more will lead to saturation of the market (nine issues this month alone), German corporates are unlikely to print at these levels and don’t need the cash, while Italian and Spanish corporates are unable to access the capital markets and the slack is unlikely to be taken up elsewhere. The Deutsche Bank deal is the only one from the banking sector since the beginning of July and is unlikely to open the market for others in any big way – if at all. Covered bond issuance came in at just under €5.5bn, but again this is the lowest total for September since at least 2005. The high yield market is effectively closed after Heidelberg’s 9.5% deal on Wednesday essentially made the barrier for other issuers insurmountable."

We know:
"The recent significant increase in credit spreads for many financials has been driven by the markets concerned about the ability of the weaker players to access credit at reasonable rates."
The race for funding/capital is on, and even in the corporate high yield space. Survival of the fittest...and defaults we could have as it looks highly likely by know we might enter another period of recession.

Mind the gap...

The Itraxx CDS indices picture on Friday - source Bloomberg:

Itraxx Crossover 5 year index (High Yield), wider by 47 bps to around 842 bps
Itraxx Europe Main 5 year index (Investment Grade), wider by 12 bps to around 202 bps.
Itraxx Financial Senior 5 year index wider by 19 bps to around 280 bps
Itraxx Financial Subordinate 5 year index wider by 34 bps to 535 bps.
SOVx 5 year index western Europe (15 European countries, sovereign CDS risk) versus SOVx CEEMA (Central Eastern Europe, Middle-East and Africa) - source Bloomberg:

SOVx CEEMA trading now wider than SOVx Western Europe, as contagion has spread to other regions with the ongoing European crisis.

The liquidity picture - source Bloomberg:

Not really improving, ECB overnight facility deposits on the increase. The reserve period started on the 14th of September and is shorter this time, 28 days until next reserve period.
Flight to quality mode on Friday following the inflation figures in Europe coming at 3% (2.5% expected), German 10 year Government bond versus Germany 5 year CDS - source Bloomberg:

More delays and inactions by European politicians could therefore have significant consequences in the credit space.

Everyone is hoping the EFSF is the silver bullet for the European debt issues plaguing Europe. I do not believe it is and agree completely with my good credit friend, which is a good follow up on the post "Much ado about nothing" where we discussed EFSF being a CPDO redux:

"While everybody is waiting for “The Solution” and rumors are the investors’ daily bread, volatility remains high. I have been asked a lot of questions about the EFSF and its capacity to be used to sort out the current crisis… To be honest I do not know how the EFSF will help recapitalizing the banking system. But I can tell you that the EFSF is structured in a way that there is no pre-funding, that there is not implicit guaranteed by the full faith and credit of the guarantors, and that the structure will be subordinated to the new coming structure called ESM. This means that the cost of funding of the bonds issued by the EFSF will continue rising each time a European State will be downgraded. EFSF bonds are already trading 1% above German government bonds. In addition, any rumor about increasing the EFSF size is based on a totally misunderstanding of the consequences of such a bold act. With a lending capacity of 440 billion and a commitment of 780 billion of guarantees, the structure has already a leverage of 165 %...doing more would be inconsiderate and would imperil the ratings of France and potentially Germany! Keep in mind that any downgrade will impact the rating of the structure and its funding costs, which will weight on its ability to help the countries in need. In addition, any bond issued by the structure has a defined number of guarantors and this number is decreasing as more States cannot commit anymore: as an example, the first bond issued to help Ireland had Portugal among its guarantors …. And Portugal cannot guarantee new issues anymore! So the ability of the EFSF to raise money is impaired each time a country is downgraded, putting pressure on the countries which still have a strong rating.

Any solution will have to go through the ECB as there is no other viable possibility."

For more on why the EFSF is not the Holy Grail, I recommend reading the following opinion from M&G Mike Riddell:
M&G's Riddell: Ten reasons why the EFSF is not the Holy Grail

While all eyes are still focused on the ongoing European crisis, we discussed contagion to Emerging Markets  in our post - "Markets update - the EM Contagion" and it could be a significant event - source CMA, Sovereign CDS 5 year Wideners on Friday:

Asian sovereigns 5 year CDS widening, the picture on Thursday - source CMA:

And Japan affected as well - source CMA:


SOVx Asia 5 year CDS as of close 28th of September - source Bloomberg:

With the slowdown in Asia, we know China has been withdrawing subsidies program such as the one HAIER Electronics Group Co, one of the world's leading white goods home appliance manufacturers benefited from, leading to a significant sell-off of its shares:

Looks like there are some additional collateral damages, due to China withdrawing its subsidies/stimulus program. This time it is number two in the home appliance sector, namely Gome Eletrical Appliances Holding, which fell 22% on Friday, the most in almost three years. This time around following a Credit Suisse note on transparency and funding concerns according to Bloomberg.

GOME going?

In relation to the Emerging Markets contagion story we have been discussing recently, the currencies movements we have seen so far have been fairly important. In fact Asian currencies have had their biggest monthly loss in more than a decade:
South Korean won, worst month since February 2009 and Taiwan dollar dropped the most since 1997 according to Bloomberg:
"The Bloomberg-JPMorgan Asia Dollar Index slid 3.9 percent this month to 114.98, the biggest drop since December 1997."

Sinking Won and plunging Real leading to inflation concerns - Source Bloomberg:

Bloomberg chart indicates:
"THE CHART OF THE DAY shows the so-called breakeven rate on South Korea’s inflation-protected security due March 2017 rose 16 basis points this month to 2.93 percent yesterday, the most since February, as the won weakened 9.1 percent. In Brazil, the two-year breakeven rate jumped 40 basis points to 6.21 percent as the real slid 12.9 percent. The gauges measure the gaps between inflation-linked and conventional bond yields and indicate expectations for average annual inflation until the debt matures."

And we know Central banks in Emerging Markets have been busy trying to sustain the stability of their currencies: Russia, Argentina, India, Brazil, South Korea, selling dollars and for some starting to deplete their dollar reserves in the process.

But before we go through some of the reasons behind these currencies movements tied to commodities selling off, it is time for a coffee break:

Source Bloomberg

The reason behind the Real currency's weakness is the start of the great unwind of the "Double-Decker" funds, and I am not talking about the variety of Double-Decker one can find visiting London.

Investors Take Risky Ride on Double Deckers - John Jannarone -WSJ

"Compared with Americans, the Japanese are veterans of ultralow interest rates. Japan began monetary easing two decades ago, only rarely raising rates much above zero since. In response, even regular Japanese investors have gone great distances to find countries with better growth prospects and higher interest rates.

The latest answer from Japan's financial laboratory: "double-decker" funds that bundle high-return assets with high-yield currencies. Double deckers were insignificant at the end of 2008, but now manage ¥9.65 trillion ($126 billion), according to Morningstar. The first layer of the strategy is to invest in assets such as stocks or bonds that often carry big coupons or dividends. Those returns are turbocharged with foreign-exchange derivatives, which make an equal-sized bet on one or more currencies.

The result is potential yields that are too attractive to resist. Take double-decker funds stacked with bets on the Brazilian real, the most popular currency category. One such fund, Mitsubishi UFJ Bond Currency Select Brazilian Real, has a dividend yield of 21% and has generated a 17% annualized return over the last two years, Morningstar says."

And John Jannarone to comment in his article:
"To fight inflation, Brazil continues to raise interest rates, putting the economy under strain. If that or, say, a correction in commodity prices triggered a downturn, the central bank could respond with interest-rate cuts, leading to a depreciation of the real. Any underlying double-decker assets with exposure to Brazil also could suffer."

And suffered it has, with commodities selling off after the bubble popped (Copper, source Bloomberg, 22nd of September 2011):

JP Morgan commented on the "Double Deckers":
"Interesting to note we have an analyst monitoring this situation…He reckons BRL overlay funds amount for $ 44bn of Japanese retail money and that, while these investors have net sold BRL overlay funds for the 7th consecutive biz day, total net sales only amount to $ 4bio this year.

Should we see a Lehman-type financial crisis and further JPY appreciation (20% more vs BRL) he reckons up to $ 31bn of this Japanese retail money could be unwound."
Ouch!

And John Jannarone to conclude his article:
"The lesson in Japan and elsewhere: Sustained low interest rates force investors into risks they may not fully appreciate. And with markets already volatile, investors should beware sudden unexpected moves that leave them out of pocket."

And we know the following from an article published in Bloomberg on the 30th of September:
"Japanese investors, who hold $102 billion worth of Brazilian assets, are pulling the most money out of the Latin American country’s currency market since April, deepening a slide in the real that’s fueling bond losses.
Pensioners and other individual investors took 52.7 billion yen ($689 million) out of so-called currency overlay funds that speculate on the real this month through yesterday, according to data compiled by JPMorgan Chase & Co."

So yes, you have a big rush towards the exit from Japanese retail investors.
Its forced liquidations/redemptions time - source Bank of America Merrill Lynch:
"EPFR Mutual Fund data for week ending September 28th
-US HY puts together 4 straight weeks of inflows, +$424mm of inflows
-Non US HY outflows remain remorseless with $1.5bn of outflows, $-13bn for qtr.
-Loan outflows (10 straight weeks) continue to wipe out YTD inflows: -$176mm
-EM Debt see largest outflow ever, 17% of YTD inflows with $3.2bn outflows
-High Grade inflows rip to a record $6.8bn:Big EM to DM with in Fixed income
-Munis deliver inflows in every week in September with $552mm of inflows
-All Fixed Income saw inflows of $10.5bn
-Commodities see outflows of $915mm, large outflow from precious metals
-Equities officially deliver $70bn of outflows for qtr after -$4.8bn this week
*Despite S&P flat since last week, data flow would suggest many investors are clearly in risk off mode, with a high bias to increase credit quality of portfolio ($8bn into HG). EM equity outflow streak reaches longest streak since 2002."

So, the differential in FX between DM (Developed countries) and EM (Emerging Markets) is leading to big outflows and the Japanese "Double Deckers" getting whacked in the process.

And on a final note, in addition to ECRI pointing towards another recession, I give you Bloomberg's April Oil price jump as an additional indicator:

Source Bloomberg:
"THE CHART OF THE DAY shows that 10 of the last 11 U.S. recessions were preceded by jumps in oil prices, at least four of which were associated with Middle East conflicts and embargoes by the Organization of Petroleum Exporting Countries: the OPEC oil embargo of 1973-74, the Iranian revolution of 1978-79, the beginning of the Iran-Iraq War in 1980, and the first Persian Gulf War in 1990."

"Leadership is the art of getting someone else to do something you want done because he wants to do it."
Dwight D. Eisenhower

Stay tuned!

Markets update - Credit - Surf's up ! Much ado about nothing and CPDO redux in European Style

"No one loves the messenger who brings bad news".
Sophocles in Antigone

So what?

We have an epic rally in the equity space because of some news of a possible plan to leverage up the EFSF, CDO-SIV style? What has materially change today? Not much.
And my good credit friend to comment:
"Another volatile day in the equity market …. On rumors, rumors and more rumors of EFSF, ESM, EIB, ECB …. And overall leveraging of the existing system …. It may make the trick for a while, but I tend to think it will not be long before Mr Market rejects that “too complicated to work” puzzle."

The plan so far is sketchy at least and fraught with danger.

Why? Because it eerily reminds me of the halcyon days of the structured credit space, namely CPDO structures. A CPDO (Constant Proportion Debt Obligations) structure was a fixed income instrument with cashflows that had a high and rated likelihood of payment, in theory. At least that was the plan, when ABN AMRO launched its 1 billion euro CPDO called SURF in January 2007. Trouble was that the widening wave got too big to surf and SURF 100 got wiped out.

Its death came in October 2008:

"Requiem for the CPDO" - FT Alphaville - Sam Jones

October 13, 2008 (Bloomberg):
"ABN Amro Holding NV had the ratings on three constant proportion debt obligation funds totaling $305 million cut to D by Standard & Poor’s as the transactions were forced to unwind."
So much for the "Deal of the Year" awarded in February 2007 by Risk Magazine...

Sam Jones commented at the time:
"The CPDOs, funds that use credit-default swaps to bet on company creditworthiness, were downgraded because of “spread widening and increasing volatility” in the credit derivatives market."

"CPDOs, a structured finance post-mortem" - FT Alphaville - Tracy Alloway - Februrary 5 2010:

"Remember that these things, which basically used credit-default swaps (CDS) to bet on company creditworthiness, began popping up in the summer of 2006. ABN Amro’s Surf was the first to be issued, with an AAA rating."

Why did I chose to dicuss the CPDO example in relation to the proposal of the leverage EFSF proposal and not a Credit CPPI note?

Here is why:

The Credit CPPI note is an investment whose principal is protected by a low-risk portfolio (zero-coupon bonds or cash deposits) where the return is increased by leveraging the exposure to a risky portfolio of CDS names, when losses are incurred in the CPPI, the SPV (Special Purpose Vehicle) must decrease leverage to protect the principal.
But, when losses are incurred in our CPDO, the SPV must increase leverage in order to make up the increased shortfall in NAV (Net Asset Value), and by the way principal is not protected.

So, in the CPPI you have limited downside and unlimited upside, in the CPDO, you have limited upside and unlimited downside, kind of.
So in our levereraged EFSF play, the lower volatility in interest rates, the lower likelihood of default. But in a CPDO/Leveraged EFSF, there is a risk of failure of repayment of full principal at maturity.

Could it be the explaination for the apparent reluctance of our German friends to leverage/increase the EFSF given their first hand experience with structured credit?

In a CPDO/leveraged EFSF, when multiple dowgrades happen, creating significant widening in spreads/higher interest rates, the loss in NAV can be significant.

But back to our market overview:

The liquidity picture:

Bank deposits at the ECB still climbing. EUR 3 months Libor, a little bit better.

Italy Sovereign CDS 5 year versus Spain, same story as before, spread between both countries widening:

And Spanish Central bank to take on three more savings banks in distress. The Fund for Orderly Bank Restructuring controlled by Bank of Spain (FROB), will inject 5 billion euros in Catalunya Caixa (90% stake), Unnim and Nova Caixa Galicia according to WSJ.

Portugal 5 year Sovereign CDS versus Ireland 5 year Soveeign CDS:

The luck of the Irish.

10 year German Government bond versus 5 year German CDS:

Some welcome respite in the flight to quality with German 10 year yield moving back towards the 2% level.

In relation to European bank funding, it is not getting better. For the last three months, we know by now that banks have been unable to sell debt at affordable prices, apart from covered bonds, costly for some, backed by pools of prime loans. This quarter, only 34 billion dollars of senior unsecured debt has been issued in Europe by financial institutions, which will probably be by month end "the smallest of any quarter in more than a decade" according to Dealogic.

In relation to the ongoing European debt crisis and the Bundestag vote of the 29th of September, the whole game rest on Germany. Exane BNP Paribas in its latest report Strategy calls published on the 27th of September, goes through interesting points relating to German politics - frequently asked questions:

• "Merkel is safe (for now)

Despite some regional election defeats Angela Merkel remains popular (near 50% approval rating), as does her party (32% in recent polls). Her junior coalition partner(FDP, liberal) has suffered heavy losses while Merkel’s CDU has held an uninterrupted lead in polls since the last general election. Länder election losses are no direct threat through at least mid 2012."

• Germans like Europe (for now)

Despite euro-sceptic gains in Finland, Germans remain unwavering in their support of Europe and 64% are in favour of further integration. Sentiment towards Europe has not changed with the euro crisis. Reflecting this mood, opposition parties are more pro-Europe than Merkel and even support Eurobonds. In the recent Berlin election, voters rejected euro-sceptic election tactics by the FDP."

• It’s the economy, stupid

German voters’ opinions and Merkel's position could quickly change in a recession. Polls suggest Germans are happy to support the periphery as long as they are doing well themselves, i.e. their jobs are safe. When GDP growth turns negative the German economy begins shedding jobs, changing the dynamics within Germany. Merkel’s sudden about-face on nuclear power shows that she can quickly reverse long-held positions if the situation demands it."

And Exane BNP Paribas to add:

• "Will EFSF reform pass the Bundestag?

When it comes to Europe, all parties have a clear commitment to Germany being actively involved in the European Union, to keep the euro currency and support closer European fiscal integration.
More specifically, EFSF reform is generally supported by the government,but some CSU and FDP politicians in particular (but also some CDU MPs) have called for an open debate on an orderly default procedure instead of an open-ended transfer union.

• What about Eurobonds?

Eurobonds are a more contentious topic. The current coalition government is opposed to the principle of Eurobonds, particularly the smaller coalition partner (FDP). Within Merkel’s CDU, however, opposition to Eurobonds has begun to crumble with some MPs arguing for an open debate on the topic. The two largest opposition parties (SPD and Greens) in principle support the idea of Eurobonds as a key part of the solution to the sovereign debt crisis.
Taking a step back from the day-to-day political debate, Eurobonds seem to have much greater political support in Germany than is often assumed. Also note that in recent polls, 64% of Germans were in favour of closer fiscal integration in Europe, an important pre-condition to Eurobonds."

So far so good, but as Exane BNP Paribas add in the report:
"The main obstacle to Eurobonds perhaps comes from a recent ruling of the German constitutional court. The court in principle approved EFSF as a temporary measure, but at the same time said parliament must not introduce a permanent mechanism; Eurobonds would be."

So yes, right now, the German constitution is a serious obstacle to Eurobonds gathering momentum.

But Germans are still for more integration - Source Exane BNP Paribas:

And according to this report from Exane BNP Paribas, what is saving so far Merkel is the economy and the labour market, which is key in relation to "electoral fortunes". And Exane BNP Paribas to comment:
"As long as Germans feel their jobs are safe and the euro crisis does not hurt them directly, sentiments towards the European Union and European integration stays supportive. But with its export-driven economy Germany would be highly sensitive to any slowdown in global growth. And if unemployment rises, the willingness of German voters and thus German politicians to support their southern European neighbors could quickly dwindle. Our economist estimate that the German economy begins shedding jobs when GDP growth falls below 0%."

And given Merkel's big u-turn relating to the Japanese nuclear disaster this year, and that next general election in Germany are to be held in September 2013, and we know that Merkel is already committed to a third term, I would really follow closely the German economy in general and the German labour market in particular.

And I as previously posted as a final quote in my previous post - "Markets update - the EM contagion":

"Prosperity makes friends, adversity tries them."
Publilius Syrus

German unemployment rate - January 2007 to September 2011:

German GDP growth rate from January 2007 to September 2011:

Stay tuned!

Markets update - Debit Trading - the EM contagion.

"If you don't have a functioning financial system the world economy won't be revived. All the major economies have their responsibility to assist at a pace which is required to clean up the balance sheet of the banking system and to ensure that credit flows are resumed."
Manmohan Singh

Contagion we have in Emerging markets:


Source CMA:

The trend is Ukraine:


No more Viagra ((Pfizer (PFE) long-term rating cut to A+ from AA- by Fitch; Outlook Stable) for China, as one stimulus after another is getting pulled out – this time around, it is not like Haier Electronic Group as we discussed previously with subsidies for home appliances. Instead, loan approvals are getting withdrawn:
China’s Squeeze on Property Market Nearing ‘Tipping Point’ - Bloomberg - 23rd of September:
"The squeeze on China’s property market may be reaching a “tipping point” that drives growth lower just when exports are under threat from a global slowdown and investor confidence is plunging, said Zhang Zhiwei, Hong Kong-based chief China economist at Nomura Holdings Inc.
Land transactions in 133 cities tracked by Soufun Holdings Ltd., the country’s biggest real-estate website, fell 14 percent by area in August from a month earlier. Prices of new homes declined in 16 of 70 cities last month compared with July, according to government data."

Pop goes the real estate bubble in China, from the same article:
"Property construction is a mainstay of investment that last year drove more than a half of economic growth while land sales contributed 40 percent of revenues earned by local authorities that have amassed 10.7 trillion yuan ($1.67 trillion) of debt.
A funding squeeze on developers risks a “domino effect” as companies needing cash cut prices, forcing others to follow, Credit Suisse Group AG said yesterday.
“We’re reaching a tipping point where land sales are dropping much faster than before, developers are losing more access to bank financing, and housing prices are showing weakness,” Nomura’s Zhang said in an interview in Beijing yesterday."

And Bloomberg to add:
"The price of land in Beijing slumped 76 percent in August from a month earlier, while in Guangzhou it plummeted 53 percent, according to Soufun. Land auction failures surged 242 percent in the first seven months of this year because of government curbs on the property market, the Beijing Times reported Aug. 3."

A Chinese Subprime crisis in the making?
"Some developers have turned to trust firms for financing, usually in the form of loans that are repackaged into investment products and sold to retail investors. The debt is typically funded by banks or investors themselves, according to Samsung Securities Asia Ltd."

Worst Asia Currency Drop Since ’97 Spoils Debt - Source Bloomberg:

So, no safe haven anymore even in Asia, its redemption/liquidation time for some global macro players.
Source Bloomberg - Kyoungwha Kim and Jiyeun Lee - 23rd of September:
"The Bloomberg-JPMorgan Asian Dollar Index slumped 4.3 percent this month, heading for its biggest loss since December, 1997, led by a 9.6 percent decline in South Korea’s won. Korea Exchange Inc. prices show the yield on 10-year government debt soared 27 basis points, or 0.27 percentage point, to 3.82 percent, from an all-time low on Sept. 14. The yield on similar Indonesian debt jumped 68 basis points this month to 7.47 percent, after touching a record low on Sept. 9."

And EM for Global Macro players is a crowded trade according to Bank of America Merrill Lynch research, hence the liquidation we started to see and mentioned in the post "Markets update - Credit - Anterograde and Retrograde amnesia":

Emerging Markets, which until recently had been preserved from the onslaught, have been affected as well by the revised growth picture published by the IMF, cutting its forecast to 4% from 4.3% in June 2011 - Source Bank of America Merrill Lynch Research:

So Australia and Australians banks please beware:


And given commodities based countries are in the frontline in relation to a Chinese slowdown, it is of no surprise commodities based currencies are taking a beating in the process:
AUD/USD, 2008 until the 22nd of September picture - Bloomberg:

Canadian dollar is exposed as well:

And my good credit friend to comment:
"The equity market finally realized what the credit market was” flashing” for a while… and reacted accordingly. But the race to catch back with the credit market has still a long way to go…and the path may not be a straight line. Bottom line, equities will go lower as the new “norm” of slow economy worldwide will be accepted…

Which means lower prices for commodities (goodbye Canadian dollar and Australian dollar carry trade), higher US dollar (a higher US dollar and slower growth will be the poison pill for the international US corporations)…"

No more safe havens, even in Switzerland, as the country now flirts with deflation, Japanese style:

Source Bloomberg.

Like Japan, Switzerland is suffering from currency appreciation, tipping it towards deflation in the process, with 30 year Swiss Government bonds yielding less than Japanese 30 year bonds, with a yield at around 1.30%.
The Swiss National Bank is warning that its Consumer Prices may decline 0.3% in 2012.

As a follow up on our last post where we discussed the sell-off in Emerging Markets currencies, we have now 4 countries trying to prop up their currencies, namely, Russia, India, Argentina, and now Brazil.
According to Bloomberg in relation to Brazil:
"The central bank sold 55,075 currency swap contracts in auctions, which was equivalent to selling dollars in the futures market. The last time policy makers entered the derivatives market to weaken the dollar was in June 26, 2009, according to the central bank. Yesterday’s measure marked a reversal of a 28-month-old strategy of buying dollars to weaken the currency."
Brazil Sovereign CDS climbed 23 bps on the 22nd of September to 219 bps according to CMA.

No, inflation is not the immediate threat, deflation is. US treasuries returned so far 1.7% in September, 8.9% gain year to date.

And my good credit friend added on this:
" “No more risk free assets” may result in a big re-pricing of all asset classes.

When there is too much debt in a system and when everybody is reluctant to erase the debt, the only solution is to deflate the value of the debt and the capital in order to bring them in line with the value of the assets or collateral… The trend will be “to deflate”, because we are in “deflation” … even if nobody wants to hear it."

Ratio MSCI EMERGING MARKETS/ MSCI WORLD:

"Prosperity makes friends, adversity tries them."
Publilius Syrus

Stay Tuned!