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iTraxx Crossover Basis, the cheap hedge

23 February 2015 by pdonnat

In a candlestick chart, the candlewick displays the high and the low over a given period, while the candle displays the variation over the same period. With a full candle, the data is wider, with an empty candle, the data is tighter. On today's Grapple, we can see first that the iTraxx Europe Crossover basis (BTXEX) has this year the largest amplitude, between -70cts and 40cts (around -14bps to +8bps) and, second, that this basis is at the lowest level of the year. Even if the Greek single names CDS prices at falling today like Hellenic Telecommunications (-20bps) or Public Power Corporation (-2.75%), this is far from being sufficient to explain the index trading level. The environment is positive on the short term for the European high yield market with large inflows. But on many names the spread valuation is providing little room for further tightening given the credit fundamentals. The basis is the expression of this strong imbalance between a top down approach and bottom up approach of the credit. The first approach is much faster to change than the second one. Buying protection on the index while selling on the single name should benefit from a reversal. The basis should attract a lot of investors at this level, the basis is a cheap hedge.