Professor Bennet Sedacca put together a three part set of articles on the credit markets this past week. One recurring theme is how the equity market speaks in a very different tone than the credit market. Here are links to the first two articles in the series:
A Tale of Two Markets, Part 1
A Tale of Two Markets, Part 2
Let’s take a closer look at a snip from A Tale of Two Markets, Part 3.
Consider the case of American International Group (AIG), the once great insurance behemoth. It’s now, in my opinion, been reduced to a company that is spinning out of control, unable to determine how bad its credit portfolio is and how bad its investment portfolio is. Mind you, this is a company with $1 trillion in assets, but bonds that are going down in price quickly and probably not coming back anytime soon. I have been contemplating ever since Stage 2 of the Credit Crisis began what company would be first to not be able to finance themselves.
I thought it could be Lehman Brothers (LEH) (it still could), Merill Lynch (MER) (they sold their Bloomberg stake and other assets and diluted common shareholders at 10-year lows just to stay alive), but I hadn’t considered AIG and the insurance companies. But I am now.
Take a look at how AIG bonds are trading after its disastrous announcement. It’s absolutely un-economical, in my opinion, to raise more capital as it already buried equity and preferred buyers on its last asset-raising go-round, so I don’t know how it stays alive.
Its comments in the press clearly demonstrate the lack of risk-controls. The problem here, of course, is that AIG isn’t alone. It’s just one of scores of companies that cannot finance themselves. The credit market is speaking, loud and clear.
AIG 5 Year Corporate Spreads versus 5 Year Treasuries
Click On Chart To Enlarge
Note that prior to the credit crisis’s beginnings, AIG paper traded at a mere 69 basis points above 5 year Treasuries and has ballooned all the way to 675 basis points above Treasuries.
I watch the debt trade all day as trades stream across my screens and it is the same here as it is for many regional banks and brokers. Some of the banks I expect to survive, like Bank of America (BAC), JP Morgan (JPM), UBS (UBS) and Wells Fargo (WFC), which trade pretty well.
Citigroup (C), with all of its troubles, and all of its lack of controls and general disdain for clients, will likely survive in one way or another. It’s probably too big to fail but I imagine will likely be broken into many parts.
Sedacca is one of the brightest minds in fixed income. His opinion about possible potential survivors is based on credit spreads.
A quick check will show that those are also some of the stronger trading bank stocks in the equity markets as well. Like Sedacca, I expect Citigroup to survive. I just doubt Citigroup survives in one piece, something I have been saying since last Autumn, if not before.
Mike “Mish” Shedlock
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