High-Yield Credit Crashes To 6-Month Lows As Outflows Continue

We have been warning for a while that not only is the high-yield credit market sending a warning but that it is critical for equity investors to comprehend why this is such bad news. This week has seen exuberant equity markets start to catch down to high-yield's warning but today's surge in HY credit spreads to six month wides is a rude awakening. Between outflows, a huge wall of maturities (and no Fed liquidity), and corporate leverage, the reach-for-yield just became an up-in-quality scramble. HY spreads are over 70bps wider than cycle tights implying the S&P 500 should be around 1775. When the easy-money-funded buyback party ends, will you still be dancing?

 

High-yield protection is in huge demand – credit spreads surge to 6-month wides – implying a 1775 S&P 500.

 

As outflows continue to rise…

Outflows from high yield funds and ETFs amounted to $1.69bn this week following a notable outflow of $2.46bn last week and a $1.85bn outflow in the week prior to that. The last three weeks account for the largest outflows in HY this year. The outflows are likely a result of the selloff in high yield bonds in July, as flows typically follow return.

 

You were warned:

High-Yield Bonds "Extremely Overvalued" For Longest Period Ever

 

High Yield Credit Market Flashing Red As Outflows Surge

 

Is This The Chart That Has High-Yield Investors Running For The Hills?

*  *  *

Between a sudden shift to a preference for "strong" balance sheet companies over "weak" balance sheet companies (the end of the dash for trash trade), and this rotation from high-yield to investment-grade, it is clear that investors are positioning defensively up-in-quality ending the constant reach-for-yield trade of the last 5 years.

Why should 'equity' investors care? The last few years' gains in stocks have been thanks massively to record amounts of buybacks (juicing EPS and also providing a non-economic bid to the market no matter what happens). This financial engineering – for even the worst of the worst credit –  has been enabled by massive inflows into high-yield and leveraged loan funds, lowering funding costs and allowing CFOs to destroy/releverage their firms all in the goal of raising the share price.

Simply put – equity prices cannot rally for long without the support of high-yield credit markets – never have, never will – as they are both 'arbitrageable' bets on the same capital structure. There can be a divergence at the end of a cycle as managers get over their skis with leverage and the high yield credit market decides it has had enough risk-taking… but it only ends with equity and credit weakening together. That is the credit cycle… it cycles.




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Lucky Charms on Wall Street

As the slide starts and the stock markets open in the red on the 1st August , it’s now time to take into consideration what it is that will save you on the floor from losing the house, the wife and the kids because you didn’t know how to deal with the stock crash that’s on its way. Of course, study, research and believe that it’s a rocket science but we all know that it’s not. Create algorithms and use fancy computer programs, even pay someone to do the dirty investing for you. But, when it boils down to it, it’s lady luck that will make you a winner or a looser. And, I’m not the only one that thinks so. There are a good many people in the past that have used anything and everything they could lay their hands on to bring them luck in the financial world. Here are just a few of them.

The superstitious Wall Street guys

You wouldn’t have thought it in the digital age but there are some that are playing with the money of the rest of us on the stock markets using lucky charms and superstitious beliefs. Isn’t this supposed to be 2014?

There was the trader Frank ‘Tony’ Ciluffo at Steinhardt, Fine, Berkowitz that what he had for lunch had an impact on the stock market. That’s enough to give you indigestion alone, isn’t it? He had two toasted English muffins with jam for an entire year because the first day he had them he made a killing. He carried on eating them day in and day out until he’s luck bottomed out and he had to change to cream-cheese-and-olive sandwiches. Any nutritionist would be reeling by now, but investors think it’s probably good in that quirky retro way.

Apparently, you should never sell while your stock is going over $90. There’s the common belief that if it hits $90, it will hit $100 before dropping, so you might as well stick it out and make a few more dollars for the champagne parties. There’s nothing to prove it whatsoever. But, if they are all doing it, they are all increasing the stock artificially, anyway.

There are those that force their traders to take female hormones because women make better decisions that are less violent which means less viable to risk (2007, Andrew Tong that filed a lawsuit against his boss Ping Jiang). But, there are also the traders that down the testosterone boosters after they hit 30 so they can keep up with the wolves that are just entering the pack. It reduces sluggish decisions and increases stamina and nerve.

At Murray & Co there’s a trader that things that the tidier the desk he has, the more money he will make. Oh, and he never uses a red pep either, because that’ll bring bad luck and look like loss. In the real world that would be a compulsive obsession disorder, wouldn’t it? Don’t you get put under a doctor for that? But in the world of investment, it’s the norm. The mad hatters are on the inside in this story, running down a hole to catch the money at the bottom of the pit.

Then there’s the superstitious bathroom stall at the Chicago Mercantile Exchange that nobody wants to use because it leads to the trader losing money. What more can you say?

It has been proven by research that when there is an environment of risk, a perceived lack of control and high stakes that are in the bidding, then people resort to superstition. Superstition-induced behavior is and has always been part and parcel of the investors on Wall Street. There was even that Superstitious Fund started in 2012 by Shing Tat Chung. The idea was to get investors to put money into a portfolio that was completely generated and managed by a computer program that took into consideration only things that were related to superstitions. That means that the robot steered clear of Friday 13th and anything that had the number 13 in t, for example. Or, it bought when the new moon started but when it was full-moon time it stopped everything. 144 people invested £4828.88 and it traded on the FTSE100 for a year. Before you run out to buy the rabbit’s foot, remember that the Superstitious Fund closed down over 16%. There might be weirdoes out there with their quirks that always tie their shoe left shoelace before the right one and then think they are going to get the dollars pouring in, but remember, they are only better off until they start losing.

Isn’t that how banks went bankrupt, believing that they would never lose any money because they were on to a winner?

Everyone wants to be a smart trader these days.

The next Friday 13th is now February 13th 2015, so you have some time to buy those shares still.

Originally Posted: Lucky Charms on Wall Street 




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CDS Triggered: ISDA Confirms Argentina Credit Event Took Place

Moments ago ISDA, which yesterday was queried whether a CDS-triggering credit event had taken place in Argentina, made a ruling. Here it is:

  • The Americas [Determinations Commitee] met on August 1, 2014 and resolved that a Failure to Pay Credit Event in relation to the Argentine Republic occurred on July 30, 2014.

Surprised? Look who is on the ISDA Americas determinations commitee:

    BlueMountain Capital Management, LLC (Second Term Non-dealer)
    D.E. Shaw & Co., L.P. (First Term Non-dealer)
    Eaton Vance Management (First Term Non-dealer)
    Elliott Management Corporation (Third Term Non-dealer)
    Pacific Investment Management Co., LLC (Second Term Non-dealer)

And now, we find out who is the biggest seller of Argentina CDS was. Up next: the CDS auction.




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European Stocks Plunge Into Red For 2014, Portugal Down 10% This Week

But but but… the crisis is over and Europe is recovering? European stocks dropped 3.2% in the last 2 days – the most in 7 months – taking the broad index into the red for 2014. Portugal (remember how BES was contained) collapsed 10.3% this week (down 26% from its highs in April) to one-year lows. Europe’s VIX spiked over 20 today – its highest in over 4 months.

 

European stocks are red for 2014

 

Portugal led the decline…

 

Charts: Bloomberg




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Friday A/V Club: Watch This Old Movie About Stranger Danger and Marvel at How Unsupervised Kids Used to Be

Not a scene from the movie.The Strange Ones (1963) belongs to an
evergreen genre of classroom movie, the stranger-danger picture, in
which kids are taught tips for avoiding kidnappers and molesters.
Many films and videos have been made on this theme over the years,
some of them unintentionally
funny
in dark, weird ways. But The Strange Ones stands
out.

That’s partly because of the sheer nightmarishness of it: the
shadows, the creepy music, the narrator who constantly wanders into
horror-movie territory. “Most people in the world are good and
nice, but unfortunately, there are some strange ones,” she tells
us. And: “You never know when there might be a Strange One around.”
And: “Even if this little boy had seen the man, how could he know
that he was a Strange One? There’s no way to tell. The Strange Ones
look just like everyone else.”

Yet watching this in 2014, that atmosphere of dread seems to
have settled in a world where people are remarkably level-headed
about
the risks families face
. There’s no need here for someone like
Lenore
Skenazy
and her Free-Range Kids movement: It’s
taken for granted that boys and girls will run errands for
their parents, walk home from school on their own, go to the park
or the movies without an adult, and play unsupervised in public.
Even when the narrator suggests that children should not go
someplace on their own, she doesn’t say they should stay close to a
grown-up; she tells them to “take along a friend.”

They’re also told they shouldn’t hitch-hike. This advice is
offered as we watch footage of a young boy thumbing a ride.
Evidently, half a century ago it was sufficiently common for
pre-adolescents to hitch-hike that someone felt the need to make a
movie telling them to stop.

The Strange Ones was directed by Sid Davis, a stuntman
turned classroom-film auteur whose movies have attracted a small
cult following. (His most infamous effort is probably Boys
Beware
, on the threat purportedly posed by lurking
homosexuals.) After he died in 2006, I wrote that
he

occupies a gray area in mid-twentieth-century America.
On the one hand, he was an independent filmmaker with his own
vision, shooting ultra-low-budget pictures with few constraints. As
[film historian Ken] Smith wrote, “Society’s discomfort with
Davis’s dark world gave him the freedom to do pretty much what he
wanted. No committee of educational advisors oversaw his work, no
peer group condemned his excesses.” But it was educators who bought
his movies, and it was schoolchildren who watched them; his films
were frequently narrated by government officials or other authority
figures, and they weren’t averse to speaking the psychiatric
language of the time. Davis might not have been a part of the
social-engineering community, but he certainly was part of the
social-engineering complex. There’s a complicated relationship
between the supposedly scientific interventions of credentialed
experts and the more nakedly paranoid world of grassroots moral
panics. Sid Davis was a bridge from one to the other.

Bonus link: A few years after The Strange
Ones
 came out, Davis released a quasi-remake—the
soundtrack is the same, but the old black-and-white images have
been replaced by new color footage. Comparing the two will give you
a quick lesson in the evolution of American fashion, architecture,
and automobiles.

(For past installments of the Friday A/V Club, go here.)

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U.S. Firms Dealt Another Blow by Order to Microsoft to Surrender Overseas Emails

EmailIf U.S. goverment officials really want to
promote American business and give the economy a boost, forget the
crony-tastic Export-Import Bank;
they should just stop making
services
based here look like
convenient extensions
of snoopy government agencies. But that’s
not the tack they’re following. Instead, Chief U.S. District Judge
Loretta Preska ordered Microsoft to cough up emails stored in
another country, chalking up another win for tech companies based
anywhere else.

According to
CNet’s Charles Cooper
:

A federal judge said Thursday that Microsoft can’t prevent the
US Department of Justice from obtaining emails stored in a data
center overseas in a case that has raised concern among Internet
privacy groups and technology companies.

Chief US District Judge Loretta Preska today ordered Microsoft
to comply with a December warrant allowing the DOJ to obtain a
customer’s email-account data stored in Dublin, Ireland. The US
government is seeking the emails in connection with a criminal
investigation.

The case isn’t over yet. Preska stayed her order while Microsoft
takes it to the next level. The company’s General Counsel Brad
Smith
commented
, “We will appeal promptly and continue to advocate
that people’s email deserves strong privacy protection in the U.S.
and around the world.”

There’s no doubt the company will continue to fight the
government’s effort to extract information from around the world
using the company as a proxy—out of survival instinct if for no
other reason. Communications companies elsewhere are already using
the long reach of the United States government as a marketing point
for services located outside of U.S. jurisdiction. After the
National Security Agency scandal broke last year, Daniel Castro of
the Information Technology and Innovation Foundation
remarked
, “Countries are competing to be the Cayman Islands of
data privacy.”

And yes, more than a few of these “data havens” are governed by
officials every bit as intrusive as ours. International telecom
Vodafone
recently clarified
just how snoopy many governments can be. But
the U.S. is the country with the PR problem on the issue, whatever
the worldwide reality.

Microsoft has a chance of winning this case. Just how the Fourth
Amendment applies to data flowing around the globe is a matter
that’s still in flux. The Electronic Frontier Foundation argues
that the government’s interpretation of search and seizure
protections is bogus
, and glosses over the inconvenient (for
officials) reality that simply copying data from wherever it’s
stored is a seizure.

By continuing to treat U.S.-based services as wiretaps on the
world, American officials hammer civil liberties at home, and hand
a huge marketing win to companies overseas.

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The White House's Head-Scratching Defense of Pot Prohibition

Did you know that the Office of National Drug
Control Policy (ONDCP) issued an
official response
 to Sunday’s New York
Times
 editorial urging
Congress to repeal the federal ban on marijuana? You did not miss
much. The ONDCP says marijuana must remain illegal because
“marijuana is addictive,” because “drugged driving is a threat
to our roadways,” because “marijuana use affects the
developing brain,” and because “substance use in school age
children has a detrimental effect on their academic achievement.”
Washington Post blogger Christopher Ingraham
judges
this response “surprisingly weak,” noting that “it’s
built on half-truths and radically decontextualized facts.”
NORML’s Paul Armentano
calls it
“utterly pathetic,” while New York Times
editorial writer David Firestone
points out
that the ONDCP is statutorily obligated to oppose
legalization, regardless of the facts. That provision applies only
to Schedule I drugs, so one benefit of moving
marijuana
to a less restrictive category might be smarter, more
nuanced arguments from the beleaguered pot prohibitionists at the
ONDCP—a possibility they are not allowed to discuss.

Or maybe this is about as smart as the case for prohibition
gets. The ONDCP statement exhibits two classic flaws of
prohibitionist arguments: 1) the failure to justify the legal
distinction between alcohol and other drugs, and 2) the failure to
justify (or even acknowledge) the use of force to stop people from
consuming psychoactive substances that politicians do not like. As
Ingraham notes, all of the administration’s concerns about
marijuana apply with equal or greater force to alcohol, which
President Obama himself
admits
is more dangerous than marijuana. If these concerns do
not justify the prohibition of alcohol, how can they justify the
prohibition of marijuana?

As usual, the White House glosses over what that policy
means in practice. “The Obama Administration approaches substance
use as a public health issue,” the ONDCP says, “not merely a
criminal justice problem.” But no amount of quasi-medical rhetoric
can make up for the violence inherent in this system.
A
s long as the government tries to forcibly prevent
consensual transactions, 
it will be locking
people up (and occasionally killing
them
) for things that should not be crimes.

“We agree that the criminal justice system is in need of
reform and that disproportionality exists throughout the system,”
the ONDCP says. “However, marijuana legalization is not the silver
bullet solution to the issue.” 
For the record,
the ONDCP also

rejects
the idea that legalization is a “panacea.” The
ONDCP is right on both counts: Marijuana legalization is neither a
silver bullet nor a panacea. It nevertheless would be better than
prohibition, which is the issue I thought we were
discussing.

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The White House’s Head-Scratching Defense of Pot Prohibition

Did you know that the Office of National Drug
Control Policy (ONDCP) issued an
official response
 to Sunday’s New York
Times
 editorial urging
Congress to repeal the federal ban on marijuana? You did not miss
much. The ONDCP says marijuana must remain illegal because
“marijuana is addictive,” because “drugged driving is a threat
to our roadways,” because “marijuana use affects the
developing brain,” and because “substance use in school age
children has a detrimental effect on their academic achievement.”
Washington Post blogger Christopher Ingraham
judges
this response “surprisingly weak,” noting that “it’s
built on half-truths and radically decontextualized facts.”
NORML’s Paul Armentano
calls it
“utterly pathetic,” while New York Times
editorial writer David Firestone
points out
that the ONDCP is statutorily obligated to oppose
legalization, regardless of the facts. That provision applies only
to Schedule I drugs, so one benefit of moving
marijuana
to a less restrictive category might be smarter, more
nuanced arguments from the beleaguered pot prohibitionists at the
ONDCP—a possibility they are not allowed to discuss.

Or maybe this is about as smart as the case for prohibition
gets. The ONDCP statement exhibits two classic flaws of
prohibitionist arguments: 1) the failure to justify the legal
distinction between alcohol and other drugs, and 2) the failure to
justify (or even acknowledge) the use of force to stop people from
consuming psychoactive substances that politicians do not like. As
Ingraham notes, all of the administration’s concerns about
marijuana apply with equal or greater force to alcohol, which
President Obama himself
admits
is more dangerous than marijuana. If these concerns do
not justify the prohibition of alcohol, how can they justify the
prohibition of marijuana?

As usual, the White House glosses over what that policy
means in practice. “The Obama Administration approaches substance
use as a public health issue,” the ONDCP says, “not merely a
criminal justice problem.” But no amount of quasi-medical rhetoric
can make up for the violence inherent in this system.
A
s long as the government tries to forcibly prevent
consensual transactions, 
it will be locking
people up (and occasionally killing
them
) for things that should not be crimes.

“We agree that the criminal justice system is in need of
reform and that disproportionality exists throughout the system,”
the ONDCP says. “However, marijuana legalization is not the silver
bullet solution to the issue.” 
For the record,
the ONDCP also

rejects
the idea that legalization is a “panacea.” The
ONDCP is right on both counts: Marijuana legalization is neither a
silver bullet nor a panacea. It nevertheless would be better than
prohibition, which is the issue I thought we were
discussing.

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California GOP Gubernatorial Candidate Spent a Week Homeless. Sorta.

With $40, a bus ticket from L.A. to Fresno, a
backpack, and a sleeping bag, California’s Republican gubernatorial
candidate, Neel Kashkari, kicked off a week of job-searching while
homeless. Sort of.

“This has been one of the hardest weeks of my life,” Kashkari
said. “I came to Fresno expecting to be able to find a job and take
care of myself but it’s been a week and I found nothing. I’ve run
out of money and had to turn to the homeless shelter for food.”

He really did sleep on park benches (and even got hassled by
cops and private security), but one has to wonder how much his job
inquiries were affected by the fact that he was mic’d and had a
cameraman in tow.

Either way, Kashkari concludes, “The solution is simple — it’s
jobs. It’s not more welfare. It’s not more food stamps. It’s jobs.
And we know how to do this.” He’s skeptical of how much
California’s economy is actually recovering under Gov. Jerry Brown,
and there’s merit to that. California ranks 44 in the U.S.
for unemployment, about
9 million people
, or 24 percent of the state, live in poverty,
and some in the state are pushing for even
higher taxes
on the already-tax-heavy
state.           

Although he served as Assistant Secretary of the
Treasury for Financial Stability under both Bush and Obama,
Kashkari’s got limited name recognition and an “R” next to his name
that isn’t making it easy winning over the golden state. Polls

show
that throughout June and July he’s steadily held onto
about 33 percent support compared to incumbent Brown’s 55 percent.
Notably, Kashkari campaign is fueled by pretty modest budget: he’s
spent about $4 million and has less than $200,000 in the bank,
compared to Brown’s
$22 million
.

The former investment banker isn’t the first person to make a
politically-motivated dive into blue-collar blues this week.
Yesterday I noted how ex-Gov. Ted Strickland (D-OH)
“tried” (and predictably failed)
to live on the minimum wage.
That was a gimmick and so is this. Kashkari’s gimmick is a bit more
creative and interesting, though, and it might just have the viral
power to boost this multimillionaire’s image in California, and may
help magnetize donors nationally. 

Here’s the video:

Hat tip:
Jim Swift

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