by Danielle Robinson
NEW YORK, Aug 11 (IFR) - The US banking sector has become the whipping boy of the bond markets, as investors shy away for fear that US banks could be sucked into any European banking crisis.
The financial institutions group, or FIG, is the biggest sector in the corporate bond market, and that very liquidity is now being harnessed by investors to make negative bets.
“Because the bank sector is the biggest in the Barclays credit index, if people want to get negative on the corporote market in general, they will sell the bank sector and vice versa,” said Rob Crimmins, portfolio manager at Guardian Life Insurance Company of America.
Investment grade bond investors are shunning the sector, despite the fact that it’s the most oversold in overall market. Banks are conspicuous for their absence on lists of bonds investors have been circulating this week to test offer levels.
“Banks are really for the risk-tolerant investor right now,” said Larry Glazer, senior portfolio manager at Mayflower Advisors LLC in Boston. “We find a lot of investors who want to be opportunistic but can’t stomach the volatility of the bank names.”
Concerns about a European bank default spreading contagion throughout the global banking system was rife this week and manifested itself mostly in the gapping out of bank credit default swap spreads.
“If there is one true concern it’s that something happens to the financial system over in Europe. If that happens, then it’s 2008 all over again,” said Mirko Mikelic, senior portfolio manager at Fifth Third Asset management.
Bank of America, with its shares under pressure because of its problems with mortgage losses, was the worst hit this week as the cost of protecting its debt against potential default spiked.
Five year CDS traded at around 332bp offered on Thursday afternoon, 32bp wider on the day and 142bp wider from its levels on August 4.
That means it costs $332,000 a year for five years to insure $10 million of Bank of America (BAC.N) bonds.
Other banks were also caught up, with Citigroup (C.N) trading around 220bp, 22bp wider on the day and 62bp wider on the week; Morgan Stanley (MS.N) was 27bp wider on the day at 288bp and 94bp wider on the week.
Even Goldman Sachs (GS.N) suffered, trading 22bp wider at 223bp today and 60 wider from last Thursday.
Strategists have argued for months that bank bonds are oversold and represent a great buying opportunity, but so far their comments have been falling on deaf ears.
In his latest report, Keefe, Bruyette & Woods analyst Fred Cannon echoed comments from other Wall St analysts that US banks are in far better shape than European banks and if there is any concern, it’s about earnings, not viability.
“The capital and liquidity positions of banks are significantly better than going into the 2009 recession,” said Cannon. “At this point in time the increased challenge for banks is primarily an earnings issue rather than a balance sheet issue.”
Even so, longer term investors, like those managing corporate pension plan funds, appear to be willing to ride through the pain.
“Day to day you are on the phone or looking at your screens and watching a fundamentally well constructed investment not do well through a titanic volume of trading, but at the end of the day it is the fundamentals. It is always the fundamentals of the credit that you have to consider,” said Tom Meyers, senior client portfolio manager at Legal & General Investment management America.
Meyers views US banks as solid investments, but is steering clear of European bank bonds.
Everyone agrees, however, that it would be a new world for the US banks if a European banking crisis erupted — not because US banks have much lending exposure to Europe, but more because of counterparty risk.
Credit default swaps insuring French bank debt continued to widen to new record levels on Thursday, a sign people are worried about the health of those banks and rising funding costs.
Societe Generale’s (SOGN.PA) CDS were up 8 basis points at 342 basis points, after earlier trading as high as 383 basis points, Markit data show.
This cost has more than doubled in the past two weeks, coming under heavy pressure on Wednesday and Thursday, even after its chief executive strenuously denied rumors of problems at the bank.
BNP Paribas’ (BNPP.PA) CDS costs were little changed on the day at 236 basis points, after earlier rising to 256 basis points, and are up from 110 basis points in early July. Credit Agricole’s (CAGR.PA) swap costs last traded at 271 bps, up from 130 basis points in early July.
(Danielle Robinson is a senior IFR reporter; Tel: +1 646 223 6141)