World finance :: Markets, Business & Earnings

Money markets rate swaps show high central bank expectations

´╗┐U.S. interest rate swaps have rallied sharply this month even as yields on risky European debt, including Spain's bonds, increased, a move that some fear may reflect overconfidence in the ability of central banks to stem contagion from Europe's debt woes. Two-year interest swaps, which are seen as a proxy for bank credit risk, tightened to 22.50 basis points on Monday, and are down from 38 basis points at the beginning of the month. The move since June 1 reflects a breakdown of the swaps' previously strong correlation to Spanish, Italian and other peripheral European debt spreads, which have been worsening. The rally in the swaps may reflect high market confidence in central bank programs to ease pressures on the region's banks, said Ralph Axel, an interest rate strategist at Bank of America in New York."The market more and more believes that central banks will do whatever is necessary, and not just that they will act but that they can effectively prevent any kind of funding or liquidity problems," Axel said."As soon as that confidence leaves, it could be a major swap widening event, though I don't know if that will happen," he added.

Analysts at Barclays Capital noted that the correlation between Spain's sovereign debt and other assets, including world stock markets, has also broken down of late, calling the effect "puzzling.""We very much doubt that it will persist if market pressures on Spain continue to mount in the weeks and months ahead," Michael Gavin, head of global macro and emerging market strategy said in a report on Monday. Spain formally requested European aid for its indebted banks on Monday, but the lack of details rekindled investor doubts over the financial sector, hours before Moody's was expected to cut the ratings of all Spanish lenders.

CONFIDENCE COULD WORSEN Bank of America's Axel recommends entering into trades that would benefit from two-year swap spreads widening from around 20 basis points, noting these levels are near their tight levels historically and on the expectation they could widen on a renewed crisis of confidence.

"There could be a combination of things like fears that bank losses will be uncontrollable, combined with political arguing or separation, a feeling that central banks have lost control of the situation," Axel said. Central banks have eased funding concerns by offering cheap loan and swaps programs to banks, as well as various bond purchase programs, and as economic conditions worsen globally there are high expectations of further assistance. But many see the measures as stop gap, and say that more definitive solutions are needed from political leaders in the region. The Bank for International Settlements, a global forum for central banks, said on Sunday that leaders in the euro zone should create a banking union and warned that central banks are limited in their ability to contain the crisis."Central banks are being cornered into prolonging monetary stimulus as governments drag their feet and adjustment is delayed," the BIS said, adding that if the root causes of financial and economic weakness are not addressed, central banks will come under pressure to do more than they can actually deliver. German Chancellor Angela Merkel said on Monday that shared debt liability within the euro zone was "economically wrong" and "counterproductive," ahead of a highly anticipated two-date summit in Brussels starting on Thursday.

Rlpc banks seek to reduce exposure to russian loans

´╗┐Western lenders are attempting to offload Russian loans on Europe's secondary loan market to reduce exposure to the region as nervousness grows after Russia's seizure of Crimea, banking sources said on Thursday. They are looking to lower exposure on loans for Russian banks, as well as performing and non-performing corporate credits through portfolio sales or on a single name basis. It comes as Russia's annexation of Ukraine's Crimea region brought about the biggest confrontation between Moscow and the West since the Cold War."Most banks are getting nervous now and the loan market is starting to see a flow of Russian names coming from banks at good prices. All [financial institution] deals use to be shown at par or above and it was very difficult to source the paper as no one wanted to sell. Now the loans are being shown everywhere and at levels below par," a loan trader said. Loans for Russian banks were quoted at 98.3 percent of face value on March 20 from 99.1 at the start of February, according to Thomson Reuters LPC data - the lowest level since the data began to be recorded in October 2010. The bid-ask spread, which widens as volatility increases, was at 0.6 on March 20 - the widest level since February 2013.

The loan sales are expected to attract significant attention from hedge funds and other players which rarely get a look at the paper, as it is not often traded. As a result loan prices are dropping on Russian loans across the board. BIGGER LOSSES

Some individual FI loans experienced bigger losses including loans in Russian bank Vnesheconombank (VEB), which is very exposed to Ukraine. VEB's loans were quoted at around 99.5 on Thursday compared to par or above par a few weeks ago, where it usually trades."VEB is due to refinance its loans at the end of April. The paper is usually quoted at par or above but is now down half a point which is unusual seeing as it is due to repay at par in a matter of weeks," the trader said.

Similarly, loans in VTB and Sberbank were also quoted lower at around 98.5 on Thursday. A few weeks ago both loans were trading around par. VTB is due to refinance in July and Sberbank in December. Questions remain over how easy it will be to refinance FI loans in the loan market as banks appetite for the paper reduces. Among the major Russian corporate borrowers, aluminium giant Rusal, which has been hit by weak aluminium prices and heavy net debt levels, felt the brunt of the volatility as loans plummeted to the low to mid-70 on Thursday compared to around 85 a few weeks ago. Loans in Russian oil and gas companies have also been hit by volatility, among them several subsidiaries of Russian oil giant Gazprom which have fallen the most, according to Thomson Reuters LPC data. Gazpromneft's dollar revolver and Severneftegazprom's dollar term loan both dropped around half a point since the beginning of February and were quoted at 98.1 and 97 respectively on March 20. Gazprom's polyethylene production unit Novy Urengoy Gas & Chemical Complex saw its euro term loan drop by almost a point from February 1 to 98.6.