Friday, August 22, 2008

Charting distressed banks

(FT Alphaville) It is routine to weight the risk of a major bank defaulting by looking at the relevant CDS prices.

But here’s an alternative measure increasingly used by asset managers - the spread between the yield on Tier 1 paper and “lower” Tier 2 securities.

Hat tip to Fabrizio D’Emilio of Altis Investment Management.
1767.jpg

Note that while Tier 1 and “Upper” Tier 2 capital instruments issued by banks are subordinated to all debt, “lower” Tier 2 paper has fewer equity characteristics. It’s better quality paper from the investors’ point of view, since coupons cannot be deferred and loss-absorption is not automatic.
In the chart the sharp spike above 200bp (and quick correction) around the time of the Bear Stearns implosion is clearly visible.

But what’s alarming now is that the spread is worse than ever - pushing at 250bp - and failing to correct…

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