Tuesday, July 27, 2010

What is the CDS Market telling us?

For a while the major Oil Companies and Drillers were drifting out of the news. The nasty leak from the BP well was not getting constant attention any more as a mostly successful cap was put in place. Four of the largest Oil Companies are beginning a program for rapid response to a spill, all of which is very good. The problem is part of the market is not buying this, yet.  You can measure this by examining the Credit Default Swaps (CDS) 5 Year Par Spreads. The CDS spread is an indication of how much it costs to insure a fixed amount of a company's debt from default. Higher spreads mean that the market is pricing a greater chance of default, thus more implied risk.

Using Aqumin's AlphaVision Landscape, the risk premiums for the Gulf Disaster related companies using 5 year CDS Par Spreads have shown pretty hefty growth over the last 3 months. This is what you would expect from the uncertainty that had grown over the spill situation. BP, APC and RIG have dominated the headlines and their increasing 5 year CDS par spreads show it. Look at the Tall, Red buildings in the landscape on the left. The other names that pop up are DO and NE and would bear further research to see if there is an opportunity there.

7-27-2010 9-06-46 AM Using a feature in AlphaVision, you can see the same landscape footprint of GICS Sectors by 3 Day Change in 5 Year CDS Par Spreads side-by-side with the 3 month change. RIG is the only name of the 5 previously mentioned that has not responded well to BP's successful cap. In fact, RIG's CDS premiums are still going up. Note the landscape on the right in the MultiView, where RIG was pretty much alone with expanding 5 Year CDS Par Spreads over the last 3 Days while BP, APC, DO and NE had declining spreads over the same time (those are the Tall Green buildings under the landscape on the right). Recent news about a disconnected fire alarm and the attendant liability for RIG is making itself more apparent in the CDS market. This RIG is too hot to handle. Maybe it is time to start examining the other names on the list as the CDS spreads cool for them.

Andrew Giovinazzi

The opinions expressed by the author are his alone, and do not reflect the opinions of Aqumin LLC, its shareholders, partners or affiliates.