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Bull Flattening

07 July 2014 by HCM

Since the single name roll in June, the credit market has been in a bullish mode. The challenges posed by some financials (BESPL, BNP, CS to name a few and Erste bank even more recently) and the recent collapse of Gowex which reminded us that fraud can still take place (and is effectively the best threat to credit investors) did not manage to spoil the party thrown by central bankers. This bullish mood is obvious when looking at 5 year risk premia which are trading at their post crisis tights. When observing this grapple and using the 10 year indices of off the run series as proxies for investment grade credit risk premia at their effective maturity (the maturity of S20 10y is December 2018, the maturity of S19 10y is June 2018, etc…), one can also visualize the bull flattening that took place recently. Yield hungry investors have decided to move further along the maturity curves, as 10 year risk premia are typically 75% wider than their 5 year equivalent. Portfolio managers are still reluctant to use leverage to increase the gross notional of their portfolio, but they seem fairly comfortable selling what can be best described as out of the money options.