Seized-Up Credit Market Spurs Record Trading for Stocks, Bonds
By Nick Baker and Edgar Ortega
Jan. 28 (Bloomberg) -- The securities industry's unprecedented writedowns from last summer's seizure in the credit market are proving a boon for the exchanges in Chicago, London, New York and Frankfurt, where stocks and bonds never have changed so many hands.
Deutsche Boerse AG, the operator of the Frankfurt exchange, said its Xetra system handled a record 2.2 million transactions on Jan. 22, just after Germany's DAX Index tumbled 7.2 percent. The same day, the London Stock Exchange processed an all-time high 1.4 million trades through its electronic system, and the next two days were its third- and fourth-busiest. The New York Stock Exchange handled $99.4 billion on Jan. 23, 54 percent more than the average in 2007, according to data compiled by Bloomberg.
Unable to extract cash from the once-burgeoning and now- frozen derivatives markets of collateralized debt obligations, institutions are raising money where trading doesn't need an appointment.
``We provide a service to people who need liquidity,'' said Jean-Francois Theodore, deputy chief executive officer of New York-based NYSE Euronext, in a Bloomberg Television interview at the World Economic Forum in Davos, Switzerland. ``In troubled times, that's our function.''
The NYSE had eight of the 10 busiest weeks in its 215-year history since July, when the collapse of AAA-rated bonds backed by mortgages to people with poor credit contaminated debt markets. An average $334 billion of Treasuries traded daily in the second half of 2007 and January, up 21 percent from the first six months of last year, according to London-based ICAP Plc, the biggest broker between banks.
Deals Withdrawn
At the same time, companies canceled or delayed at least 70 bond offerings following reported writedowns of at least $35 billion in the fourth quarter in the financial industry, according to data compiled by Bloomberg. The index measuring investor concern over U.S. defaults surged to its highest level ever last week, Frankfurt-based Deutsche Bank AG said. Short- term IOUs backed by home loans and credit card bills fell for 20 straight weeks, Federal Reserve data shows.
``As you're liquidating a pool of subprime mortgages not worth anything near par, you may have to take big losses and at the same time sell other securities like equities or investment- grade bonds,'' said Brian Barish, president of Denver-based Cambiar Investors, which manages more than $8 billion. ``If someone was in a casino and they lost a lot of money, they might have to liquidate personal holdings or savings they had no intention of selling to satisfy those other losses.''
Liquid Markets
While banks suffered $133 billion of total credit costs and writedowns as values of securities became impossible to calculate, profits for middlemen offering liquid markets increased. London Stock Exchange Plc reported last week that revenue for the three months ended in December rose 87 percent. ICAP said earnings for the fiscal year ending in March will be the most in its history.
CME Group Inc., NYSE, the LSE and Nasdaq Stock Market Inc. may also report record earnings for 2007, according to analysts' estimates compiled by Bloomberg.
The correlation between the freeze in credit markets and increased transactions in stocks and Treasuries began in August as defaults among subprime borrowers rose to a 10-year high.
Trading at the NYSE rose 50 percent on Aug. 16 from the previous day to 2.98 billion shares, the most ever. ICAP handled a record $621.8 billion in Treasuries that day and equity-linked futures at the Chicago Mercantile Exchange soared to 7.6 million contracts, 28 percent more than the previous high.
TED Spread
Corporate borrowing costs jumped just as suddenly. The TED spread, which measures the difference between the yield on 90- day Treasury bills and the three-month dollar London interbank offered rate, climbed to 2.4 percentage points, the most since the October 1987 stock market crash. The gap, representing the difference between what banks and the U.S. government pay for loans, was 0.42 percentage point at the end of July.
There are some signals of easier credit. The TED spread narrowed to 1.06 percentage points last week. Asset-backed commercial paper, or corporate loans maturing in 270 days or less, increased since the end of 2007, the Fed data show. The amount outstanding is still down 32 percent from the high of $1.2 trillion in August.
Investor distress is also growing. The Markit CDX North America Investment-Grade Index, which measures the credit- default swaps of 125 companies, more than doubled since June and reached a record last week, according to Deutsche Bank.
Swaps, Derivatives
Credit-default swaps, financial instruments based on bonds or loans, were conceived to protect investors by paying the buyer face value in exchange for the underlying securities should the borrower default. Derivatives, which are contracts derived from stocks, bonds, loans, currencies and commodities, or linked to specific events such as changes in interest rates or the weather, aren't as transparent as securities or commodities traded on exchanges.
U.S. corporate bond sales fell to $12.8 billion last week from $23.5 billion in the previous five days and a weekly average of $22.2 billion in 2007, Bloomberg data show.
Stocks tumbled during the periods of the most trading. The Standard & Poor's 500 Index slumped 6.1 percent from Aug. 8 to Aug. 15, erasing $835 billion of market value, and lost 15 percent since reaching a record in October. So far this year, $5.76 trillion has been wiped out from the value of equities worldwide.
Forced Selling
``When you've got to raise money, you've got to raise money,'' said Dean Gulis, who helps manage $3 billion at Loomis Sayles & Co. in Bloomfield Hills, Michigan. ``If you own something that's illiquid and not worth as much as you think it is, then clearly something else has to be sold in its stead.''
U.S. government bond futures trading at the CME increased 23 percent last year and contracts tied to equity indexes soared 47 percent, according to CME Group. As investors retreated to the relative safety of government debt, Treasury 10-year note yields dropped to a 4 1/2-year low of 3.29 percent from a high of 5.29 percent in June.
Companies that handle the trades are benefiting. ICAP said last week fiscal 2008 pretax profit will exceed the average analyst estimate for a record 307 million pounds ($609 million).
``Market conditions for us are very positive,'' CME Chief Executive Officer Craig Donohue said in an interview with Bloomberg Television this month in New York. ``We are seeing more volatility and we are also seeing a real preference for transparent liquidity, where you can get in and out of the market at known prices and values.''
Bigger Losses
The profits aren't close to the credit-driven losses suffered by the world's biggest banks. New York-based Merrill Lynch & Co. reported $24.5 billion in asset writedowns and credit losses since the beginning of 2007 and Citigroup Inc., $22.1 billion. Zurich-based UBS AG had $14.4 billion of costs for the year.
The surge isn't all good news for exchanges. Speculation that the U.S. economy is sinking into recession may cause investors to flee all markets, said Robert Greifeld, CEO of New York-based Nasdaq Stock Market Inc.
``It's been a good outcome for us in the short term, but we certainly have our concerns,'' Greifeld said in an interview at Davos. ``We recognize that longer term, if we have economic issues, the trading volume will tend to go down. Our clients are all very concerned.''
An average of 6.58 billion shares changed hands daily on all exchanges in the U.S. during the second half of the year, 15 percent more than the average of the previous six months and 37 percent higher than the July-December period in 2006, according to NYSE data.
``What you're getting is people trading what they can rather than what they'd like to,'' said Lou Brien, a strategist at Chicago-based DRW Trading Group, which uses its own capital to make markets on interest-rate derivatives. ``There are certainly some that thrive on volatility, but they are probably in the minority.''
To contact the reporters on this story: Nick Baker in New York at nbaker7@bloomberg.net ; Edgar Ortega in New York at ebarrales@bloomberg.net .
Last Updated: January 27, 2008 19:14 EST |
