Counterparty Risk, and Fear, Still High

Posted by Bull Bear Trader | 9/12/2008 07:50:00 AM | , | 0 comments »

Thursday, the investment-grade CDX North America Index rose from 130 bps to above 150 bps in a little over a month (see Financial Times article). The Counterparty Risk Index of the 15 leading dealers in the credit derivative markets rose almost 30 bps to rise above 210 bps, sending the CRI to its highest level since the March 14 pre-Bear Stearns Federal Reserve bailout (ie, sale to JPMorgan). The recent Lehman Brothers issues are certainly shaking the market once again, as each new proposal by Lehman to stay afloat is rejected by the market, driving the prices of Lehman down further. Swaps measuring the difference between three-month dollar Libor and the Federal Reserve’s overnight rate for the next three months was trading near 85 bps, just below the 90 bps peak last April. The increase in Libor is signaling rising concerns over counterparty risk. The market has been waiting for the next shoe (financial company) to drop, expecting that Bear Stearns was not the end of the story. Whether a Lehman sale, or failure, will signal a turning point in the level of fear that is continuing to be priced into the credit derivative markets should be known shortly. If not, additional banks and financial institutions may be placed under the liquidity microscope.