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Liquidity limits may be approaching
Sovereign debt risk has influenced activity across markets for the past couple of
weeks. The message from the markets may be that governments are beginning
to reach the limit on how much liquidity they can provide. Several central banks
and governments have begun to rein in liquidity, and others, including the US,
may find the market less receptive to financing their debt.
Will the tail wag the dog?
We suspect concerns around most sovereign debt are overdone and believe
defaults remain extremely unlikely for most countries. In our view the widening of
sovereign CDS for G20 economies has less to do with actual expectation of
default and more to do with aggressive bets around the “tail” of the distribution of
outcomes during a period of heightened uncertainty and activist government
policies. Simply put, with unprecedented policy actions, investors are willing to
give credence to unprecedented outcomes.
GSE portfolio considerations
In general, we found that the overall exposure to Dubai government entities was
not that large throughout the CMBS universe, but there were a few transactions
that had concentrated exposure.
Higher rates, steeper curve for 2010
The asset shortage theme should begin to fade in early 2010, allowing rates to
move higher. In addition, the shift from private sector debt growth (which is
typically concentrated in shorter durations) to Treasury debt growth (which is
much further out the curve) should keep the curve steep relative to the path of
Fed policy.
Economic recovery in 2010 favors cyclical commodities
Extremely easy monetary policy helped push gold prices higher, dragging oil and
other commodities up with it. While the leadership of gold could continue in the
short-run, an improving US and global economic outlook will increasingly benefit
cyclical commodity markets, particularly in 2H 2010.
The week ahead
The PPI and CPI reports for November should again show oil-driven price
increases, but moderation elsewhere. The year-over-year CPI change should
turn positive. It will be a light week for issuance, with no Treasury coupons,
$10 billion in high grade corporates, and $5 billion in high yield.
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