That Was Quick: Biggest Two Day Plunge in Years

That was quick: From 1396 to 1334 in two days.
Equity futures are up early this morning after Walt Disney and JDS Uniphase reported earnings that beat. After yesterday’s plunge, that is fair enough.

Rumors out of Europe are that Deutsche Bank will report massive subprime and derivative losses.

Did anybody notice the dollar strength yesterday? Despite the route in equities? Let me emphasize again: The Dollar Smile Theory.

Commodities are getting slammed on global recession talk. Should the dollar show a ‘safe haven bid’ as money is rapidly repatriated… well then that would just slam commodities. Even gold is not immune.

CDO Market Is Almost Frozen, JPMorgan, Merrill Say (Update2): “Buying and selling of collateralized debt obligations based on mortgage bonds, high-yield loans or preferred shares has ground to a near-halt, traders said at the securitization industry's largest conference.

The slowdown of the more than $2 trillion CDO market follows record downgrades in mortgage-linked securities last year. Some AAA rated debt lost all its value. CDOs, which have fueled unprecedented bank writedowns since mid-2007, repackage assets into new securities with varying risks.

Lighter trading volumes for asset-backed bonds and larger- than-typical differences between the prices at which they can be bought and sold have made valuing holdings difficult and dissuaded investors from purchasing the debt, said Sanjeev Handa, head of global public markets at TIAA-CREF.

Demand for new CDOs has stalled, with just one created in the U.S. so far this year, according to JPMorgan. The creation of CDOs dipped about 10 percent last year to $494.7 billion, according to the company. The figures include only issuance for which investor money was collected upfront.”

The rating agencies have been dragging their feet. So now, when the downgrades finally come in, they’re brutal:

“Fitch Ratings today said it may downgrade the $220 billion of CDOs it assesses that are based on corporate securities. The New York-based company said it may lower the notes by as much as five levels after failing to accurately assess the risk of debt that packages other assets.”

This also provides opportunities for nimble traders:

“Some buyers have been seeking out specific mortgage-tied CDO classes that won't ever be offering payments to investors again, said Richard Rizzo, a director at Deutsche Bank AG.

Those investors previously bet the classes would default by using derivatives called credit-default swaps. By buying the classes, they want to collect their windfalls sooner, as well as end the regular default-protection payments they owe, which may stretch on for more than a decade, he said.

Under about half of the swap contracts, Rizzo said, they can collect their windfalls sooner by delivering the class after a steep-enough downgrade to the bank that's taken their wager. The bank, which doesn't want to own the class, could then sell it to a similar investor.

“I've traded one bond that's worthless eight times this year,” Rizzo said. “So it's like, “How many times can I trade the same bond that's worthless for five cents?' It is kind of funny.””

God I love trading.