Credit Markets Update: European spreads contract in thin trading

Strong results from US vehicle manufacturers Ford, Daimler Chrysler and General Motors, and retailer Sears boosted market sentiment, which aided the tightening in the European credit default swap market. Industrials, including Unilever, BASF, Siemens and Bosch, also saw their five-year credit default swaps tighten by 1 to 5 basis points.

But trading was light. “There is very little liquidity and volumes are fairly low,” said a senior credit derivatives trader in London. “The market is tightening, but there are fewer bids, with no real sellers.”

Credit protection on Spanish energy company Repsol also tightened about 40bp over the past two days to 480bp-mid, for no apparent reason. “These markets are thin and volatile and movements may have no substance behind them,” said the trader.

Credit protection on Deutsche Telekom continued to tighten following the resignation of Ron Sommer as the company's chief executive on Tuesday. Five-year credit default swaps on Deutsche Telekom traded at 290bp-mid today, down 25bp on the week. Credit default swaps on fellow telco France Telecom contracted 25-30bp over the past three days to 410/430bp.

Finnish telecommunications equipment supplier Nokia released unexpectedly strong second-quarter earnings yesterday, which boosted the embattled telecom equipment makers sector. Credit default swaps on Nokia contracted 30bp to 60/80bp after widening last week.

Credit protection for Ericcson narrowed 200bp yesterday and traded at 750/950bp today as the company ended uncertainty by pricing its Skr30 billion ($3.26 billion) rights issue and said it would be fully underwritten by shareholders and banks. But a gloomy earnings announcement by the firm today is likely to reverse the spread tightening, said one trader.

Financials remained under pressure. “Volumes are fairly high, especially for insurers, with interest from clients and the street,” said Stuart Wayne, a financials trader at JP Morgan Securities in London.

The cost of credit protection on French banks remained high amid fears about their exposures to France Telecom and Vivendi Universal. Yesterday, BNP Paribas released disappointing second-quarter figures early and revealed an exposure to Vivendi of €1 billion. Its senior and subordinate credit default swaps widened by 3bp and 7bp to 24/34bp and 100/115bp respectively.

Standard & Poor’s revised its outlook for Credit Suisse First Boston and UBS on Wednesday from stable to negative following falls in global equity markets. Bids on senior credit protection for CSFB have risen steadily in line with negative market sentiment to 60bp - roughly twice what they were two months ago. The agency statement caused senior protection to rise another 5bp to 65bp-mid. Credit default swaps on UBS also notched up a few basis points, but Wayne said it was a tight well-rated credit at 17/19bp for senior protection.

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