Monday, May 23, 2011

A few thoughts... let's buy German 5y CDS @ 40bp

Over the weekend we got worse-than-expected European and Chinese PMIs.
We got not-too-good election results in Spain and Germany. Merkel lost some more ground. And so did Zapatero. What's bad in Spain? Rumours that a new government would come saying there's more debt than currently reported.
We got communication problems within the European Debt debacle. Periphery is going down hill.

With Portuguese, Irish, Italian and Spanish CDS spreads so high it seems good risk-reward to do the equivalent carry in German CDSs. The 5yr baby is only @ 40bps, so very limited downside risk and gigantic upside. 

I'm not betting that Germany will go bust, but markets might not leave it at 40bps. Just a few months ago it was trading at 60bps. 

- At the best of times, in the past 2 years, it was trading at 20bps. Here it is 1:1 risk-reward.
- What changed since then in terms of periphery? It got worse.
- Countries are not getting growth, but deficits remain.
- Short-term solution? None.
- Long-term solution: restructuring.

Why? Because I do not believe governments will be able to kick the can down the road forever or that growth will suddenly appear. Germany is about the only country who is doing quite well in Europe.


Last week we got bad American regional PMIs: Empire, Philadelphia Fed. Today the Chicago Fed National Activity Index pluged... to Aug2010 levels. New Orders x Inventory were very bad in most of these guys.

A better-than-expected Jobless Claims, one of the indicators, lagging, sure, that I pay a lot of attention to. That was the bright spot.

Housing-related numbers all pretty bad and still around the lows: Existing home sales, Housing starts.

Industrial Production was also worse than expected. Japan, again, hitting the auto sector.

The Conference Board's Leading Indicators also bad. It came in negative. For the first time in months. The ratio of Coincident to Lagging (RTCL Index on BBG) down, back to Dec2010 levels.

So just a quick note:

What will happen to american economic activity when QE2 ends if the markets does not resume its upwards trajectory?
Let's wait and see.

Some weekly not-important indicators:
US Railway traffic, Electricity Output  and ECRI Leading Indicator.

*Disclaimer: charts and data are presented as I receive/see them. Sources are usually not checked for validation and my own calculations are of 'back of the envelope'-type. I am aware that some math that I do myself might be wrong and/or misleading to some extent. In financial markets the rate of change of economic data is often more important than the actual level and the perception of 'what is priced in' is more important than 'what is actually going to happen'. This is actually the way people pick entry and exit points. So... yes, sometimes you might say 'This guy is an idiot, this is way wrong!' with a high conviction, being right. Not to worry. Markets are made of expectations and the clash of conviction between its participants. Portfolio managers know that being an idiot is sometimes profitable and being smart is often a bad choice. It is all reality, sometimes good, sometimes bad. By the way: corrections to my analysis and intelligent debate is welcome. theintriguedtrader AT gmail do com

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