MARKET MOVER - BNP PARIBAS - Investment Services India

have been happy to buy the roll to position on the
riskier new index.
In addition to these technical factors, we continue to
think that MAIN trades too wide relative to various
other markets (EUROSTOXX 600 in particular) and
do not rule out a tightening of 5 to 10bp, all other
things being equal. A complete realignment to equity
and volatility indices would imply an outperformance
of about 13bp. It is also worth noting the further drop
in 1-week and 1-month correlations between MAIN
and SOVX; we do not expect the two indices to
completely de-correlate as it is the case for XO but
we see room for MAIN to outperform in the short run.
What’s next? We think compression will remain one
of the main themes in the coming weeks and months
and are now waiting for a new entry point to re-enter
the XO/MAIN trade. In terms of ratio, we would aim
at 4.80x on the new Series, i.e. 110 on MAIN vs. 528
in XO.
SUB/SEN:
With the level of volatility in Ireland CDS and Irish
banks still very elevated – the Sovereign CDS is
80bp wider this week; AIB and BKIR about 120bp
wider – and the level of correlation between SOVX
and FIN SEN still high, we had this week a massive
underperformance of FIN SEN relative to MAIN and
relative to FIN SUB, the latter being perceived as
less systemic. On a weekly basis, FIN SEN and SUB
are respectively wider by 21bp and 26bp; as a result,
the SUB/SEN ratio reached a new 5-month low of
1.47x.
In cash, the momentum has turned much less bullish
for Lower Tier 2, in particular for bullet bonds. We
also saw some profit taking on Tier 1 after the
massive performance of the asset class since the
beginning of the month (120bp in two weeks) but the
tone remains constructive overall, thanks to strong
technicals. Note that the regulatory changes are also
unfolding into the relative performance of Banks in
equity markets and the sector comes as the clear
underperformer on a weekly and monthly basis.
What’s the call?
The more mixed picture in Bank Capital instruments
– T1 being the exception – is making us expect some
underperformance of FIN SUB; given the recent
collapse of the SUB/SEN ratio, we think it makes
sense to take profit on our compression trade “long
risk FIN SUB / Short risk FIN SEN x1.5”, although we
reckon that further pressure on weaker sovereigns
could further compress the ratio. Net gain on the
trade: 11bp01 .
Chart 4: 1m performance by sector (EUROSTOXX 600)
14.0%
12.0%
10.0%
8.0%
6.0%
4.0%
2.0%
0.0%
STOXX 600
Banks
Financial Services
Insurance
Telecommunications
Media
Technology
Utilities
Oil & Gas
Food & Beverage
Health Care
Retail
Travel & Leisure
Chemicals
Construction & Materials
Basic Resources
Source: BNP Paribas
Chart 5: iTraxx MAIN – CDX IG history
-
20
15
10
5
-5
-10
-15
-20
MAIN vs. CDX IG:
Industrial Goods & Services
Personal & Household
Goods
Automobiles & Parts
3/10 4/10 4/10 5/10 5/10 5/10 6/10 6/10 7/10 7/10 8/10 8/10 9/10 9/10
Source: BNP Paribas
EU MAIN - 1 x US CDX IG (5Y)
Q1 (6m)
Median (6m)
Q3 (6m)
iTraxx MAIN has naturally underperformed CDX IG
this week given the pressure on GIIPS sovereign
debt and European banks. Note that financial
institutions represent 20% of the European basket
and only 12% of the US one, not mentioning the
disproportionate exposure to GIIPS between
European and US financials.
Our trade “long risk MAIN s13 / short risk IG 14
x0.85” is now back to our entry level and is likely to
post losses should the market remain weak and
focussed on GIIPS sovereign debt. This
recommendation initially aimed to perform with the
increase in the likelihood of a double-dip scenario; in
such a scenario, the weaker credit quality of the US
basket relative to the European one would have
ensured the underperformance of the US index. With
these concerns much beyond European sovereign
1 Entry levels: 205 (SUB s13) and 135 (SEN s13);
Closing levels 215.5 (SUB s13) and 149.5 (SEN
s13).
Pierre Yves Bretonniere 23 September 2010
Market Mover Non-Objective Research Section
39
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