Equity meltdown causes "sheer panic" in credit trading

As the equity markets continued their freefall today, the credit default swap market took a lead in what was described by one trader as a morning of sheer panic.

As morning trading began in New York, the last six weeks of widening in the credit markets continued to filter through to the equity markets amid widespread fears of a credit crunch.

The S&P 500 stock index followed a loss of 2.8% yesterday by trading at 1471.89, down 0.7% on the day, as was the Dow Jones Industrial Average at the end of morning trading.

Meanwhile Europe’s Dow Jones Stoxx 600 was around the 372/373 level at the end of the day in Europe, a 5% loss on the week.

Disturbances in the single-name CDS market were highlighted by one trader in the example of United Utilities, which ended yesterday’s trading at 36 basis points, and traded at 44 bp first thing in the morning. That represents an 8bp difference overnight, which he described as “incredible”.

The atmosphere in the credit indexes was no better with the iTraxx Crossover today hitting a 459bp wide, a full 100bp wider over the past six weeks. That level was described by Société Générale research released today as “out of touch with reality”.

Perhaps the worst performer of the day was the iTraxx Europe Main, which widened a full 7bp on the day to a 60bp wide, while the HiVol index hit 78bp. Another trader reported that liquidity had dried up, with bid/offer spreads at a 5bp differential for the Crossover, which was at 1bp or 2bp earlier in the week.

The Dow Jones CDX.NA.IG, an index of investment-grade CDS prices, was also wide at a 79–81bp bid/offer, although that was expected to widen further later in the day. “The lack of liquidity has been startling, as equity is now following credit, where before it was the opposite,” said a trader at a major US bank.

He pointed to the entry of equity hedge funds and foreign exchange funds to the credit index markets looking for hedges. That caused a massive amount of bids in the morning, which were sporadically taken, and a surfeit of offers in the afternoon.