Today we had a first grade panic in credit default swaps ABX-HE-AAA 07-2, ABX-HE-AAA 07-1 and second grade panic in CMBX-NA-AAA 3.

In the past two occasions that kind of panic was a very reliable indicator that the chain reaction will happen. The next thing to happen before the stock market starts moving down is the decline of junk bonds. For the next 2-3 weeks I see only 3 possible outcomes:

  1. Major market crash
  2. Feds will cut 50bps
  3. All of the above

As I don’t see any hint so far that Feds may cut 50bp I would put the probability of the outcome #1 at over 50%

Update: I don’t know how important it is but back Thursday someone charged someone else 15% for overnight Fed Funds loan. The comments from “Calculated Risk” discussion:

The 15% for the Fed funds rate as the “high” shows that some member institution has to pay 15% due to the poor quality of assets that they are using for the FED Repo (TOMO operations).

O yeah, while I’m at it, I don’t think the 15% was in a Fed Repo operation ( http://www.newyorkfed.org/market…?SHOWMORE=TRUE)

The FFR is “the federal funds rate, which is the interest rate at which depository institutions lend balances to each other overnight”. The TOMO is done to influence these operations in the aggregate. So the 15% we saw was some institution charging some OTHER institution for overnight lending against its crappy assets. Wouldn’t I love to know who it was.