C.M.O. 4.17.2009

Credit Market Overview
April 17, 2009

Wall St. used to be dominated by the “Bulge Bracket” firms; those that were in perennial competition, mostly amongst themselves, to see who could underwrite the most securities, trade the highest volume and generally prove which among them brought the most alpha to Alpha. Taking an example from the business that brought it all down, think of it as Alpha^2.

Today a better description might be “Bust Bracket” as all of those same firms, whether they still exist or not, were recipients of TARP money and even if for a nano-second needed that money or to have people know they received it, to survive. If they weren’t scared why did GS and MS pull a midnight morph and wake up as commercial banks?

Scroll forward a few months and GS, JPM and WFC are doing the alpha dance once again over who will actually write the check to Uncle Sam first. GS’s earnings wowed the market and JPM’s, while not Goldmanesque, proved that there is more than one dog in that pack.

C reports earnings this morning and some attributed yesterday’s late session sell-off to the possibility that while swinging at the piñata Vikram might miss and pop a few balloons. WFC numbers come out on the 22nd so should Pandit poop-out we won’t have to wait that long for Wells.

All of this repayment talk has taken place while the Treasury is conducting their stress tests and although GS has thumbed its nose at Congress’ efforts to socialize Wall St.’s pay scale by allocating more money for compensation in 2009 than it did in 2008, Tim Geithner isn’t accepting any checks before the results, in some form or fashion, are released.

That the worst case stress scenario: positive albeit anemic GDP growth by 4Q09 and an unemployment rate with a double figure handle is now most economists “most likely outcome” should not be berated as Uncle Sam’s rose colored glasses were welded in place ages ago and there will be, no doubt, at least one hapless soul that fails the test anyway.

The test results are posing a bit of a problem in this regard as the corner the government has now painted itself into has “being too soft” on one wall and “what happens to those banks that fail” on the other. John Dugan, Comptroller of the Currency said in almost perfect gov-speak recently; “there will be definitely some information that will be provided, exactly what that will be and when it will be provided will come forth later.” Gives you that warm fuzzy feeling doesn’t it?

In speaking about what happens to those that don’t come through with flying colors Eugene Ludwig, CEO of Promontory Financial Group and a former Comptroller of the Currency said, “You can create a run on a bank pretty quickly”. The good news here is that now we know the government can do something quickly.

As for keeping the results under wraps Wayne Abernathy, EVP of the ABA doesn’t “think they [Geithner & Co.] can ignore the appetite they have created for this information”. “It’s what we can say that is meaningful while still protecting the quality of the exam data.” I did say painted in a corner, right?

On top of all of this the Treasury gave a progress report on how the 21 alpha dogs that received TARP money have been doing with regard to lending it back out and the results are mixed at best. In total credit offerings were down 2.2% in February with the banks shying away from commercial real estate, general business lending along with student and auto loans.

On the plus side mortgage originations were up 35% in February. An article in the WSJ provided a case study with an owner of several car dealerships in Michigan having his bank fail to renew some of his credit lines prompting a reduction in 1/5th of the workers employed. How can we possibly get to anemic growth and 10+% unemployment if the banks actually lend the money they’ve been given?

Where does all of this leave us? The KBW Bank Index was up ~96% in the 38 days from March 6th to April 13th of this year and closed very close to that high last night. The XLF is up ~79% during exactly the same time frame and also closed neck and neck with its high last night.

GS had it CDS high and equity low last November at 381bps and $52 respectively. The CDS hit 371bps on March 9th but has since fallen to 201 as of yesterday while the stock closed at $121.19 last night down from its recent high of 130.15 on 4/13.

JPM’s experience is slightly different as it appeared immune to a spike in its CDS last fall when that number went to 224bps on 9/17/2008 but the stock continued moving higher until 10/2/2008 closing at 49.85 before becoming positively correlated with its CDS while both moved lower until early this year. The most recent high in JPM’s CDS was 242bps on 3/9/2009; the same day the $15.90 low was put in, in the stock. As of last night close the CDS was 165bps and the stock $33.24.

The low in C, on a closing basis, was achieved on March 6th at a price of $1.03. Between then and now the stock has moved up to $4.01 and the CDS down to 530bps, the latter did see a higher CDS level on 4/1/09 at 666bps signifying they could well have done a deal with the devil to stay alive, or maybe just Barney Frank.

The CDS for WFC made a “double top” in techno jargon on 3/9 and 4/1 of 2009 just over the 300bps level. The $8.12 low close in Wells’ stock was on March 5th. Last night those numbers were 218bps and $19.45.

Last but not least Fifth Third Bank, the institution responsible for the 20% reduction in the Michigan auto dealer’s workforce, has only a stock quote on Bloomberg. It bottomed on February 2nd at $1.03 and closed yesterday at $4.32. I guess it pays not to make loans.

Enjoy the weekend.

Jim Delaney