The Morning After…

Sovereign CDS is tighter and SOVX is a lot tighter. I’m not sure by exactly how much as that products is heading the way of EDS’s (equity default swaps) and binary bonds (100% payout after a Credit Event) or TRS on high yield bond indices. Sov CDS will not look like other interventions. Those typically seem to work for a while and then the market returns to normal. I expect Sov CDS volumes go dwindle as naked short ban hits home, as the EU attempts to avoid a CDS credit event at all coats reducing their practical use to any bank that actually cares about risk managed returns, and finally the likelihood of some form of EFSF or ECB selling. The market will move on. SOVX is a relatively new product and until recently CDS on sovereigns were dull. At some point people will hang on to CDS because there will be a time all the contagion caused by EFSF (linking all the countries to the weakest fits any normal definition of contagion) will create a negative momentum that the EU and ECB can’t manipulate around. I for one will not be watching Sov CDS for meaningful insights into the market in the meantime.

Main is decently tighter – about 5 on the day. How much of that is a spillover from bad shorts in SOVX versus real strength in Credit remains to be seen.

In the real world Italian, Spanish, French and German yields are all higher. Yes Spain and Italy are tighter but the convergence is coming with an overall move lower in a weaker European bond market. Germany and France performing poorly is not surprising, but I would have thought the market would have given Italy and Spain a reach around on such a momentous day.

At one time the EFSF was going to issue 440 billion euro to buy bonds. I bet that less than 500 billion EFSF wrapped bonds will be ever issued. It would be ironic, but plausible, that they have actually shrunk the effective size of the EFSF. Demand for bonds with a 20 per cent first loss wrap that is provided by countries headed on a negative credit trajectory may not be as great as people expect and is also likely to cannibalize from investors who would have bought normal bonds.