Thanksgiving used to be about calm markets and enjoyable moments, but this Thanksgiving seems to be different. With the US in holiday mode, Europe has decided to continue the never-ending European problems. Most notably is the continuation of European credit moving higher, a theme we have been pointing out since credit abruptly turned higher earlier in November.
European credit, iTraxx, continues the trajectory higher. There was a slight reversal yesterday, but this has already been taken out. The move higher since November lows is rather extreme.
iTraxx trading so badly, Eurostoxx 50 simply can´t catch a bid. Trading volumes are light given the US holidays, but the index is approaching huge levels. 3100 is a big number for Eurostoxx 50 and a must hold level. A close below this level and things can reignite to the downside violently. With year-end coming up people will be increasingly risk-averse and liquidity will soon start drying up.
DAX paints a similar picture to the Eurostoxx 50. Watch the huge 11 000 level in DAX. This is a make or break level for the German index.
We have been writing about European credit, both going into the selloff in October, but also had it as one of the major “macro inputs” during the turns in October and November. Equity “people” tend to look at equity only, and very few have the knowledge to view the markets from several dimensions, purely due to the fact they have not traded more than one asset in their careers.
Below is a chart we have referred to before and will refer to going forward, especially since “equity people” don´t pay attention to these two indices relating to each other.
The white line is the iTraxx (inverted) versus the Eurostoxx 50 futures, VG1, (orange). Note how credit early in late October started” signalling” a risk on the bounce was about to happen in equities. As we went into the non-event midterms in the US, credit was sold heavily as protection was not needed “anymore” (and yes we did point out that this was a too aggressive sell-off in protection, especially given the fact Brexit rhetoric was intensifying as well as the Italian situation not looking brighter).
Since then, November 7th, iTraxx has been moving one way only. If credit was trading “cheap” in early November, it would be premature to call it “expensive” here, but the relative spread of the iTraxx versus the Eurostoxx 50 has reached a new local short-term “extreme”. There are many moving parts in the “real economy” affecting credit, hence it is vital watching it here closely.
Watch the huge 3100 level in Eurostoxx 50 should we start testing that and watch iTraxx for clues going forward.
Below is a chart of iTraxx (not inverted) versus the European “VIX”, the V2X index. Credit has simplified a hybrid between equity and volatility. Note how credit traded “calm” compared to V2X in late October/early November. This has totally inverted as credit now trades relatively more stressed to the V2X.
The European situation carries a lot of headline risks with Brexit and Italian news continuing to hit the tapes. Our 50 cent here is those main European indices are close to make or break levels. Credit is rather stressed. Watch not only index levels here, but credit and volatility, as well the relationship between the three here closely, as it will offer interesting opportunities.
In late October VG1 spend 4-5 days “frustrating” people at these levels before it put in a 5% bounce. This time we have traded “here” during 3 days. Whatever your directional preference is, watching credit here is vital.
Source: charts by Bloomberg
