What the TF happened to Spanish Bonds?
So what did happen in Spain today? What is causing Spanish bonds to go down so much?
The first answer is relatively easy. Nothing much new happened in Spain today, just variations of the same theme that has been out there for weeks if not months. What we have is a struggling country with many banks that would view struggling as a compliment.
So why are bonds down so much? Bonds are down because someone had some bonds to sell and that started the cascade.
Just for a moment imagine you are a market maker in the Spanish bond market. You aren’t even an aggressive market maker, so you just make markets on the 5 year and 10 year bond.
You are making the 5 year 98/98.25 and the 10 year 100.125/100.375 on screens. It’s a pretty bog standard market and the street market is the same.
Hit on the 5 year at 98. Fine, you refresh markets 97.875/98.125 and 100/100.25. You are feeling okay, as street remains 98 bid.
Then your trade gets around and street pulls back to 97.875 bid best now and 100 bid on the 10 year. Feeling 8a little bad about the purchase, but can’t help getting this bad vibe. The news has been bad and market hasn’t reacted, but seriously do you really want to own this bond here.
You ring the street broker and see if you can get the 98 bid back, figuring you will just whack the bonds out and maybe even put on a small short. The broker tells you he had to beg the guy to keep any bid.
Hmm…You refresh 97.75/98 and 99.875/100.125 thinking maybe a client will come and lift your offer.
Sales shouts over, “hey, for XYZ, where are you on the Spanish 10 year – giving you a hand signal indicating guy is a likely seller”. You refresh as 99.75/100 thinking XYZ won’t hit you and expecting sales to whine and moan that you faded the bid from your recent run (I did give salesperson credit for indicating right direction with hand signal). They don’t even argue they just hit you at 99.75. D*mn. XYZ is always a nickel and dimer, if he’s hitting you down an 1/8th from the most recent run, things must feel heavy.
You look up at the street screens and they just went offered. Cr*p, no street bid.
Now what to do? Got to pretend things are like normal. Refresh markets at 97.375/97.875 on the 5 year and 99.375/99.875 on the 10 year. With ½ point markets no one is going to touch your bids, and if you can get lifted on both you break even. You can hear the one salesperson already moan that the “gutless” trader is widening the market – “what a wimp, and how the heck am I supposed to make money” (sic, sales credits is what is actually being “made”). Trader could care less about what sales thinks at this point, he now has two positions, one of which is already a loser. Not what he needed.
Nothing happens on the markets, which on the bright side is better than getting hit. The trader gets sales to focus – “pick up your bloody phones and get on the wire with your guys and find me a buyer”.
Sales gets to work looking for a buyer. Sadly the response is underwhelming. Hedge funds keep coming back with the response that they aren’t buyers here. The news has been bad and they don’t want to step up just yet. We are off the wides, and we think it could break to new lows. Shorts don’t want to cover and no one wants to set longs. Worse, a couple of the momo guys indicate they are thinking of selling, they see “no reason” why bonds are trading as good as they are. Yikes.
The news is only marginally better from the “real money” accounts. Each one basically comes back with the color that they are on hold for now and not looking to add exposure to either Spain or Italy until the situation gets more clarity. The news would be more useful if you could short some Italian bonds against your Spanish ones, but in this environment, that would cause more problems with the Italian bond trader and management than its worth.
The trader is starting to get very nervous. He screams at the Spanish saleswoman, “Are any of your Rioja swilling guys back from siesta yet? Why the heck aren’t they buying these bonds, they’re bloody well CHEAP and I thought the government told them to buy more!” Saleswoman decides that now is not the time to get in a fight with the trader over his ridiculously inappropriate comments. She might have picked a fight if she had a bid, but she doesn’t. A couple of her smaller accounts are totally full. They aren’t adding at all. One or two of her larger accounts are looking to buy on weakness, but really focused at the front end of the curve. Yes, they see value in these bonds, but just feel a lot more comfortable 2 years and in.
Trader looks at the street screen. The 5 year is 97.25/97.75. The 10 year is 99.5/99.75. He is thinking of just smacking the bid at 99.5 since the street 99.75 offer looks aggressive. Just cut the losses before this gets ugly. As much as salespeople in general annoy him, they are making sense. The news has been bad, bonds were trading too well, and there really are no buyers.
Trader hears momo’s salesperson shouting over. “Hey where are you on those 10 Spanish 10 years?” The trader attempts to use his primary skill, the ability to say “99 bid” while clicking on the 99.5 street bid. But disaster, like a scene out of the matrix, it occurs in slow motion, with his finger within an inch of the keyboard, the 99.5 bid gets hit and left offered. “Noooo….” thinks the trader. For a brief second he’s in his own world, but he is jerked back into reality by the persistent yammering of momo’s sales coverage. Sales has a big smile on his face. It turns out momo didn’t hit your 97 bid (sales makes disappointed face) but left a 97.25 offer to work (with big grin). Sales is happy, momo rarely leaves orders. Just bloody great thinks the trader wondering for the millionth time how the salesperson can be so clueless. They don’t see that momo left the offer just to ensure that prices stay low, and by the time the trader finds a buyer, momentum will have shifted and momo won’t execute. Bloody hell this sucks.
But, the trader has to refresh the markets. 97/97.5 on the 5 year and 98.875/99.375 on the 10 year, and voila, the 5 year bond is down 7/8 of a point and the 10 year is down 1 point.
E-mail: tchir@tfmarketadvisors.com
Twitter: @TFMkts