Because we both see this leading to a very large credit event, not just a pessimistic view on the economy

I get that Raoul but if this very large credit event happens (and it might), what does it imply for the equity market? Much more downside than for HY or loans imho. I mean, if you look at 08-09, the loan market traded down to high 60s at the low. Factoring in the coupon, that's a less than 30% drawdown from a total return perspective. The drawdown was much steeper for equities. And it makes sense, it's just seniority. I'm only arguing relative value here. I'm happy to hear arguments why the drawdown might be steeper in credit than in stocks, because I don't see how that could be the case.

Cyril, do tell us more. The concern with LL is that there is a serious "adverse selection" at work. Often used to finance private equity, generally weaker credits, and increasingly cov-lite. The biggest issue is capacity. There have been whispers out there of a "run" going on in structured credit. Investors trying to pull funds, and being told they have to wait 3 or 6 months. Of course you are right, if that attempt to liquidate positions slows down or stops. The asset will have a lot of carry and there will be no selling pressure. But we are also hearing about liquidity problems. The combination of liquidity problems, deteriorating end investor sponsorship, and now a possible 2 months sudden stop on the real economy seems to me a recipe for a widening in all credits. Would you really want to be the holder of a private equity sponsored LL on a cinema chain when we might have 3m with next no revenue, but much the same costs? How about a shale driller? And what will your average CLO do if a customer is determined to seek liquidity? Draw down a credit facility? Cos selling paper in size might turn out pretty tough in these markets. So I think that's the bear case. Its certainly not a free lunch (is there ever one?) but there are reasons to be quite worried. And what is the risk on HYG? 85-87? What the possible downside? 76 if this was on a par with 2015/16. What if its worse than that? The other thing is just the rhythm of cycles. We have issued a lot of LL paper since 2008. Its now estimated to be about $2.3tr or if you take the BoEs numbers $3.2tr. That's not vast, but its a lot if its concentrated in the weaker areas of the economy, which I think it is by definition. So all that said, I would love to hear if I have gotten this completely wrong? Believe me, it wont be the first time! Best Harry

Harry, sorry a bit manic at the moment I will keep it short for now and try to provide more elements on the market this weekend. If you re-read my comments, you'll note that at no point do I deny that there have been serious excesses in corporate credit, which will have to be paid. As a conservative manager in the space (of course it's still junk but we prefer BBs and strong Bs rather than chasing for yield with the lowest quality credits), we have been concerned with excessive leverage, weakening docs and liquidity for years. Now I don't personally subscribe to "corporate credit is the new subprime" (famous last words?) - apart maybe from direct lending, which is only a subset of corporate credit - I think it's a different situation, but I will try to expand on that later when I have more time. We are likely heading to a spike in defaults. Credit spreads are likely to widen (obviously we might get a rally at any point, but yes I think it's only the beginning and there is further downside). My only point is, in a bear market equities and corporate credit are highly correlated, but equities are riskier (it's the most junior claim on the assets), hence have more downside, and I don't see how that could be different this time. Also, you have a high carry in HYG which I would think is an issue when shorting. So it's basically the same trade, but equities seems the superior one. At least in terms of shorting - one might argue that volatility is also higher in equities, making shorting harder, but I think it's high enough in HY that you can also have bear market rallies scaring you or forcing you out of your shorts. Now, when it comes to options, it comes down to an assessment of relative implied vol as well, and there might be mispricings there that make HYG puts more attractive than say SPX puts. I'm not an expert on that. I'm only talking about shorting. And lastly, I'm just saying that because I don't understand the rationale of shorting credit rather than equities, or even shorting both rather than just shorting equities (since to me it's the same trade - high correlation). I'm not claiming to have the answer. I don't sell short anything personally (I'm not even allowed to for compliance reasons) and never have. It's merely a request to have the rationale explained to me.

Thank you. Really appreciate the color, especially from a practitioner. | The thing which bothers me the most about the current situation in structured low grade credit, is not so much the default risk, but really the difficulty in restructuring compared to past recessions. There is an added level of complexity now given the bulk of CLOs cant go above a relatively low proportion of CCC. It wont take many downgrades to choke up the market. I see huge opportunities for those who can carry speculative restructured credits. But debtor in possession financing sounds like it will be hard to get. Anyway, once again, thanks for the color. Greatly appreciated.

I think you're correct in your assessment there. CLOs are usually quite constrained in terms of providing liquidity and most of all doing debt for equity swaps - though there are workarounds like swapping cash-pay senior debt for holdco PIK instead of equity for example. Also the weak docs provide more opportunities for bad actors to extract value from everyone else. Our view is that we'll have to pick the few credits we really like and build (together or more likely with some of our peers) at least a blocking stake. Minority creditors are at serious risk of getting squeezed. The counter to that is that there should be - all else being equal - fewer defaults (since liquidity or maturity are basically the only triggers left with no maintenance covenants). Fewer defaults, lower recoveries in events of default. The net impact on credit losses is anyone's guess. What is also important to understand when it comes to CLOs is that once some of their tests are tripped, equity distributions are shut off, which allows them to reinvest the cash (interest + principal repayments) in loans trading at a steep discount and "build par". That helped tremendously in the last cycle. Manager skill is obviously critical here.

*Julian* sorry about that

SPY*

You will be able to buy back. Indeed you might find that your broker is forced to buy you into trades. The compulsory closing of shorts. This is sort of unlikely in the US, but I wouldnt be shocked to see the market closed if things pan out as badly as they might.

Thank you for the reply Harry. Appreciate it!

If your positions are more speculative than core, I would suggest that you consider reducing the size of them. The short gamma related frenzied buying of duration has now passed. We now have an increasingly illiquid market where market makers are increasingly refusing to make prices. You should reconsider what risks you want to run in this environment. I am hearing stories from friends that it is taking 20 minutes to get a price for 10mn Long bonds. Thats not normal.

Thanks Harry. Not a speculative position. I have a 50/50 split between Gold and Bonds and was wondering if if merited a rebalance, but I am ok to just sit it out.

As at time of writing the Fed has just cut rates 100bps to zero - 25bps. So now, I would definitely suggest a rethink. Your ratios may be off.

Futures and Options really. There are other approaches like contracts for differences but they may not be available in your jurisdiction. My main comment is never do a trade you dont understand well at a scale you dont fully understand. Its a recipe for disaster.

I understand Purel is trading over $435/oz (like gold in ‘74). Kidding. LNS

HYG is too small to have that much of an impact in itself. Prices are driven by mutual funds facing redemptions and/or re-positioning their portfolios, dealers adjusting their books and probably hedge funds selling some individual names short, not so much by short selling of HYG. As said elsewhere, I think leveraged credit markets are currently pricing a more dire scenario than equity markets. They just have less downside in general, hence why they will sell off less than equities in a risk-off move (again, in my view, and I'm not saying that in absolute terms the downside can't be significant). Thinks of it this way: debt is senior to the equity.

1) HYG is tough for large players to short. Who will give them a price in that kind of size. 2) It's retail - its an expensive short compared to hitting bids on screens for high yield bonds. 3) You are at the mercy of the ETF dealer to some degree, who can play with the discount or premium to net asset value. 4) The actual liquidity position is entirely subject to the market makers willingness to keep quoting. All that said, if anything HYG seems to not fully reflect how bad things are in credit.

Thank you Harry and Cyril for your perspectives. Looks like HYG is finally moving some today.

Out of my skillset sadly...

Ah Brian, you make a great point. You know where they sit in the capital structure. Thing is, Julian is very bearish credit. So its hard to like any instrument with a substantial credit component. That said, given a choice of prefs vs subordinated debt, I would take the prefs. Cos I am afraid of the ordinary getting diluted more than the prefs and its easy to be quite nervous about sub debt too. But thats not much of a recommendation.

Harry -- thanks for all your detailed follow-up replies on the comments for this 'flash update.' They're very useful.

A divergence but I don't think you should think of this as a complete divergence. Both are very bearish. I think JB was pointing out that a standard bear market can have some very big retracements. Apart from just policymakers trying to solve the problem, there is also the negative gamma positions, but explicit and implicit that can cause huge retracement rallies. Wouldnt change the trend but a) they are an opportunity b) its really important to get good trade placement. Liquidity is going to be impaired going forward. Its probably useful to have some levels in mind where you can reduce your risk or take a little profit to reset a position. One hopes (and I emphasize "hope") that we don't go straight to the "apocalypse".

Matthew FX at the moment is just high beta play on US stocks. So if your question is what happens to the $ if CBs support and hold stocks then = EURUSD down, DXY up

100%. Was short USD/JPY through the last week and a half. What a f'cking ride.

FWIW I'm looking for a bounce in risk assets & dollar short term. Technicals are just off the charts oversold.

Welp. That bounce didn't last lol. Interesting how EUR/USD actually went up while stocks went down.

Went down together, rather. I.e. USD up

Personally, I think the dollar has already peaked. But its a little early to be sure of that. I guess we would want to see it break key levels and sustain the break.

I would be amazed if they were really booked up. The client base is old people - precisely the kind of people who cant afford to get CV19. And do you really want to be quarantined in a ship for 2 weeks or more. That said, this thing will be done in less than 3 years. Stocks are meant to be infinite duration assets. So provided they dont go bust its should be a good investment.

I think its best to characterize Julian as a bear who is offering some trading levels for those who like to occasionally counter trade the market. Given the scale of the short gamma positions in the market, it would be perfectly normal to get massive retracements and counter trend moves. Some of you will want to trade them. Some of you may want to slowly scale into long risk positions even though you know in the short term you are likely to go under water. If you are gonna buy high yield equity plays, but the strongest ones you can find.

I found the same with IG spreadbets when the trade was announced here. Luckily was still able to open a couple of PUTs using Saxo!

What about puts already on?

IB allowed me to sell HYG yesterday. Today there was a notification stating the shares are unavailable to short. I bought SJB, just for the time being, it may be worth a look while you wait out the HYG restriction. Side note: I also have a Merrill account, they notified me of additional borrowing fees while attempting to submit some other short trades (aside from the margin)... I called them about it, they said it occurs when they have a shortage and that the borrowing fee rates are subject to change. I asked how to check them, they suggested that I pretend to place a trade *daily to check for fee changes in the "preview order" screen)... nice.

Interested to hear more from Raoul, Julian & team on this topic -- are the clamp-downs on HYG puts, shorts & possibly (?) even plain market sell orders for the equity itself a sign of weakness which supports the MacroInsider trade thesis?

My HYG puts are still active on a slight bounce. Wonder what happens when it falls....

It's probably simply that there aren't enough shares available to be sold short... You need someone willing to lend them.

I also bought the sjb what aload of shit that is,, it don't do owt i think I'm a round 34 quid up i was expecting it to shoot the moon LMAO

Craig I agree a fast response if unlikely. Not least because the Dems won't want to hand Trump a get out of jail card until we see real economic pain. By that point, I hope its not too late.

Yep. I wonder how bad it has to get first. Seems like we're far from it. We have a way more polarized Congress than 2008/9, and it's an election year. Not the best setup.

If they are really going to push payroll tax cuts what is that going to do for someone in quarantine with a mortgage payment or a waiter who lost their job because we all had to stop eating out. I think it will be just another way that the current administration has mishandled this, soon to be, crisis.

Right. They should be making sure hospitals aren't turning people away due to money issues, and ensuring ample unemployment benefits (food, water, shelter, etc.) to get through this. It may be hospitals that need a bailout if this gets really bad. And cutting payroll tax might help prevent layoffs (employers pay 50% of the tax), but won't help for those that lost their job!

The exchange will probably either allow a settlement to take place (short re-opening) or will settle at the closing price. But we just dont know Im afraid...

Geoff sorry I'm no single stock expert. But some people who are have done the work for you. https://www.barrons.com/articles/12-dividend-stocks-to-buy-when-the-market-is-in-turmoil-51583537824 Hope that helps?

Agreed with Geoff on a list of dividend stocks that you guys are watching. Thanks for the update!