First Impressions

Warning Signs?

It is probably too early to tell, but a few stories in today’s issue point to a coming flight to quality and, more importantly, a flight from risk. A Citigroup analyst, for example, says the muni rally is cooked (see quote below). In the latest treasury auction, the primary dealers, who generally take the leftovers after the aggressive bidders take their piece, took home their smallest share on record as foreign central banks and pension grabbed the lion’s share. Jones Day dared use the “b-word” (bubble in case you missed it) to describe the junk bond market. Fitch weighed in as well on the coming volatility in the junk market.

Fitch, in its high yield bond analysis, does go on to say the rally is not over yet, but that this is the period of volatility. It sounded to me a bit like 2007, where the reset began in slow motion and picked up speed later in the year.

Quote of the Day

You just cannot find a lot of value in munis at current levels, while you could see a meaningful move higher in yields.

Mikhail Foux, a credit analyst at Citigroup, quoted in the Bloomberg story “Citigroup Leads Chorus Saying Sell Munis After 2014 Rally”

Lead Stories

Fitch Sees Interest-Rate Volatility As Top Junk-Bond Risk
Michael Aneiro – Barron’s
Fitch Ratings says that while the junk-bond market at times looks a bit frothy lately, we’re not yet a credit cycle peak, and Fitch “does not expect a significant breakdown in credit discipline among U.S. speculative grade issuers despite current high issuance volumes and historically low yields.” Fitch says this in its “Annual Manual” (it rhymes!) leveraged finance market primer, which aims to quantify major risk factors and opportunities in the leveraged finance sector.
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Repo Program Too Reliant on Clearing-Bank Credit: Report
Liz Capo McCormick – Bloomberg
The settlement of securities in Fixed Income Clearing Corp.’s program for dealers to borrow and lend U.S. government debt is overly reliant on credit extended by the industry’s two clearing banks, according to a report prepared by staff at the Federal Reserve Bank of New York.
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Treasury Auction Demand Shrinks Primary Dealers’ Share
Cordell Eddings and Daniel Kruger – Bloomberg
The share of Treasuries won at auction this week by the banks and investment firms that underwrite U.S. debt sales headed toward a record annual low as investors sought a haven in the world’s safest securities.
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***DA: Foreign central banks and domestic pension funds seeking protection.

Bond Market Belgian Mystery Draws China Focus: Cutting Research
Simon Kennedy – Bloomberg
Is China the answer to the mystery of why Belgium is now home to so many U.S. Treasuries?
The euro area’s sixth-largest economy has boosted its holdings by $140.6 billion since the start of December, making it the third-biggest holder of the world’s benchmark debt, with $341.2 billion in February. That’s almost twice what it had a year earlier.
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Pimco’s Mather Sees Clear Departure From ‘New Normal’
Mary Childs – Bloomberg
The era of sluggish growth characterized by Pacific Investment Management Co. as the “new normal” is ending, according to one of the firm’s deputy chief investment officers.
“Our view is that what you’ll see in next the few years is we’re going to head back to a new destination,” Scott Mather, one of Pimco’s six deputy chief investment officers, said in a Bloomberg Radio interview with Tom Keene.
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***DA: Back to the old normal, or headed for a new new normal?

CME Europe set for launch
FTSE Global Markets
Chicago Mercantile Exchange Group (CME) will officially launch its London-based European derivatives exchange CME Europe this Sunday.
The new venture, which will be supervised by the FCA, is the first trading platform launched by CME outside the US and will initially offer 30 FX futures products and a suite of commodities contracts.
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***DA: Best wishes to CME Group in this new venture. It has been in the works for a while so good to see they worked through the regulatory snags.

High Yield Debt: Credit Bubble And Litigation Risks
Jones Day – Mondaq
The past few years have seen a surge of high yield debt (“HYD”) issuances. By some accounts, issuers sold more than $400 billion in HYD in 2012 and more than $500 billion in 2013, and the HYD markets are off to a healthy start in 2014. With yields on U.S. Treasuries, money market funds, and other investments depressed as a result of unprecedented monetary policy in the U.S. and EU, demand for HYD products continues to rise, fueled by yield-seeking investors. This increased demand has caused HYD bond prices to rise and yields to fall.
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Russia Sovereign Debt Risk Climbs to Two-Year High on Downgrade
Abigail Moses – Bloomberg
The cost of insuring against losses on Russian government debt rose to the highest in more than two years after Standard & Poor’s cut the nation’s sovereign rating to one step above junk.
Credit-default swaps on Russia rose as much as 18.5 basis points to 284, the highest since January 2012, and were trading at 281.5 basis points at 3 p.m. in London. It’s the fifth most expensive government debt to insure after Argentina, Ukraine, Venezuela and Croatia, according to data compiled by Bloomberg.
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Citigroup Leads Chorus Saying Sell Munis After 2014 Rally
Brian Chappatta – Bloomberg
Citigroup Inc. (C), which correctly predicted this year’s municipal-bond rally, is leading a chorus of investors and analysts saying the gains are nearing an end.
State and local debt has earned 5 percent this year through April 23, the best start since 2009 and rebounding from a 2.9 percent loss in 2013, according to Bank of America Merrill Lynch data.
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Central Banks

Yellen Concerned Fed Model Fails to Predict Price Moves
Rich Miller – Bloomberg
Federal Reserve Chair Janet Yellen is concerned that the standard models central banks use to forecast inflation may be broken.
Behind her disquiet: the failure of the models to foresee the path of prices in the U.S. during the last recession and its aftermath and in Japan during its deflationary period from 1998 to 2012. U.S. inflation has been higher than the simulations suggested, while Japanese price declines proved more persistent.
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Rate moves stems rouble decline
FT.com
Russia raised its benchmark interest rate on Friday, delivering the desired effect of putting the brakes on the rouble’s decline but failing to overturn any of this week’s losses. Investors have bought the rouble on any signs of Russian concessions to end its stand-off with Ukraine and hopes of thawing tensions between Moscow and the west but there appeared few reasons to buy Russian assets this week.
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European banks to be stress-tested against two years of recession – source
Reuters
European banks will be tested on their ability to withstand a recession stretching through 2014 and the following year as part of a landmark review into whether they finally have enough capital to withstand economic shocks, a source familiar with the tests said on Friday.
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Bank of Canada Governor expects inflation and interest rates to stay low
Barrie McKenna – The Globe and Mail
Bank of Canada Governor Stephen Poloz’s prediction of an unusually plodding recovery is rooted in what he calls a “hot-and-not” economy.
Resource-rich provinces and sectors are booming, while much of the rest of the country is still in the throes of a “post-crisis repair job,” Mr. Poloz said Thursday after a speech to a business audience in Saskatoon.
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Mexico central bank holds interest rates, sees better growth
Reuters
Mexico’s central bank kept interest rates on hold on Friday, noting tame price pressures and highlighting signs of improving economic growth that bode for steady borrowing costs ahead.
The Banco de Mexico maintained its benchmark interest rate at a record low of 3.50 percent, as expected by analysts polled by Reuters.
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Decision of Turkey’s Central Bank on interest rates
The Journal of Turkish Weekly
Turkey’s Central Bank (CB) held interest rates steady for another month.
Following a meeting of its Monetary Policy Committee, the bank announced that its overnight lending rate will be 12%, its one-week repo rate will be 10% and its overnight borrowing rate will remain 8%.
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Rajan responded with monetary policy panel on interest rates
The Hindu Business Line
Reserve Bank of India Governor went along with the unanimous recommendation of the members of its monetary policy panel to maintain status quo on interest rates in the Monetary Policy Statement for 2014-15.
The eleven member Technical Advisory Committee (TAC), which is headed by Governor Raghuram Rajan, on monetary policy said upside risks to headline inflation in the near term provide the rationale for a pause.
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Currencies

Euro exchange rate is at long-term equilibrium-senior EU official
Reuters
Euro zone finance ministers will discuss the euro’s exchange rate and its economic impact on May 5, but the exchange rate is near its long-term equilibrium and the discussion is unlikely to grow contentious, a senior EU official said on Friday.
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FX Ranges Remain In A Deep Freeze – But Not For Long
Investing.com
Yesterday, FTAlphaville passed on “permabear” Albert Edwards’ comments that China is intent on devaluing its currency as the only way out of its deflationary predicament, which will impose a deflationary impulse on the rest of the world. “The continuing deterioration in Chinese economic data significantly increases the odds of global deflation being unleashed via an unavoidable Chinese devaluation”.
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Forint Extends Weekly Drop as Debt Agency Warns on Depreciation
Andras Gergely – Bloomberg
The forint capped the biggest weekly drop in three months after the central bank changed one of its main policy tools, and the Debt Management Agency warned currency weakness threatens its ability to raise financing.
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On the elimination of privately issued money
FT Alphaville
As Martin Wolf has eloquently argued this week, yes, there is a clear-cut and urgent need for state e-money issuance.
But the case for expanding the central bank balance-sheet to the population — something which can easily be done via the issuance of sovereign e-money — does not in our opinion necessarily demand the elimination of private money issuance along with it. More than likely both forms of money can co-exist quite healthily.
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Brazil Real Slumps as Central Bank Avoids Calling Rollover Sale
Blake Schmidt and Josue Leonel – Bloomberg
Brazil’s real fell the most among major counterparts after the central bank refrained from calling an auction to roll over foreign-exchange swaps, adding to speculation that it is easing support for the currency.
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Denmark Exits Negative Rate Regime as Krone Defense Tightens
Peter Levring and Christian Wienberg – Bloomberg
Denmark’s central bank showed currency speculators it won’t tolerate any test of the krone’s peg to the euro, ending an experiment with negative interest rates that started in 2012.
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Currency’s Drop in China Complicates Trade Markets
NYTimes.com
As President Obama visits four countries on China’s periphery in a bid to shore up American alliances, he faces an emerging challenge from China itself: a gradual but unrelenting decline in the heavily managed value of the country’s currency against the dollar over the last 10 days.
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Indexes & Index Products

Reyker offers Goldman Sachs income product on two indexes
Suzi Hampson – Risk Magazine
Reyker has created a dual index product for UK investors based on the fortunes of the FTSE 100 and the Euro Stoxx 50. Potential quarterly returns of 8% and an autocall opportunity after two years are all part of a fairly complicated affair
This type of product has both contingent income and autocall components.
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Russell smart beta Europe index beats cap-weighted version
Vita Millers – Risk Magazine
Russell Indexes’ fundamentally weighted indexes for Europe, which rank companies according to economic factors rather than stock price, outperformed their market capitalisation-weighted counterparts in 2013 and in the year to April 8. The Russell Fundamental Developed Eurozone Index has risen by 6.2% this year, compared to 3.7% for the Russell Eurozone Index.
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WisdomTree: Looking Under the Hood of Smart Beta: A Focus on the Size Factor
ETF Trends
Our research team is having many conversations on how one should view smart beta indexing strategies and what factors are driving the results. We attempted to quantify the various factors at play. My colleague explained our general approach to this analysis in a prior blog post, but in general we evaluated indexes according to their exposure to various factors, from their “market” risk, “size” exposure, “value” tilts and “momentum” tilts.
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How Risky is Fidelity’s Brokerage?
By Ryan Tracy and Andrew Ackerman
In Thursday’s paper, we report that senior U.S. regulators analyzing the risks posed by large asset managers started peeking under the hood of Fidelity Investments in part because it owns a large brokerage.
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Dalian bourse plans to launch commodity index futures contract
Reuters
China’s Dalian Commodity Exchange plans to launch a commodity index futures contract as soon as this year, its chairman said on Thursday. “We hope this year we will have a breakthrough,” Xingqiang Liu said at an industry conference in Hong Kong.
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Gold

U.S. lawsuits hobble Deutsche Bank’s bid to sell gold fix seat
Clara Denina and Jan Harvey – Reuters (via Chicago Tribune)
Deutsche Bank may end up resigning its seat on the London gold fix rather than selling it as U.S. lawsuits alleging price rigging against the five banks that set the benchmark deter potential buyers, industry sources said.
Over the past two months, U.S.-based investors and traders have filed nearly 20 separate antitrust claims accusing Barclays , Deutsche Bank , HSBC , Bank of Nova Scotia and Societe Generale of colluding to manipulate the gold price.
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CME plans to launch physically settled Asia gold futures-sources
Reuters
CME Group Inc plans to launch a physically deliverable gold futures contract in Asia, three sources familiar with the matter said, as the world’s No.1 futures exchange targets rising hedging and investor demand in the top gold-consuming region.
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The Gold Spread And Wall Street Banks
Craig Hemke – Investing.com
It is so obvious, and so apparent, that I wonder why commentators have only now seen fit to say something.
“It” of course, being the prounoun referencing the Gold spread and the insane, short-term profits the Wall Street Banks have been reaping right before our eyes. Let’s talk about it.
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Gold and Bonds Getting Back to Normal
Andy Waldock – Inside Futures
Gold, interest rates and the stock market have a very interesting relationship. Normally, declining interest rates are good for business and bad for gold. Post 9/11 and housing bubble, zero interest rate policies (ZIRP) created an artificial situation that fractured this relationship rendering it virtually useless over the last decade. This began to change last summer when the Federal Reserve Board stated that they would begin slowing the stimulus they’ve provided to the economy thus allowing interest rates to gradually rise. These relationships have begun to sort themselves out over the last three quarters and may actually be telling us something about the current pricing in the gold market.
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U.K. Gold Demand Seen Rising as Regulator Reviews Pensions
By Morgane Lapeyre, Bloomberg
U.K. gold demand will get a boost from investors saving up for retirement if the U.K.’s Financial Conduct Authority adds bullion to its list of “standard assets,” brokerage GoldCore Ltd. said.
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How Oversold Can Gold Price Get?
Alasdair Macleod – The Market Oracle
Gold is now extremely oversold, with emotional opinion in paper markets unanimously bearish. Traders tell us the 200-day moving average is well and truly broken and the next support level is $1260. However, when gold broke down through the $1280 level yesterday it rallied sharply to test the $1300 level in a one-day spike reversal.
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