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European credit spreads rallied last week as the picture became clearer on the important bank stress tests.
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European credit markets experienced yet another difficult week, with ongoing concerns about the eurozone's periphery continuing to weigh on spreads.
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Last week there seemed to be a consensus among the commentariat that BP PLC’s five-year spreads were overshooting significantly. A level of 500bp was outlandish for a AA credit.
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After what seems like an interminable time, the credit markets switched their focus away from sovereigns and towards corporates this week. But it was the ongoing disaster in the Gulf of Mexico rather than a rediscovery of fundamentals that captured the attentions of credit traders.
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The sovereign credit default swaps market exhibited the now ubiquitous volatility this week, with the Markit SovX Western Europe index reaching a wide level of 152bp on May 25. But the news flow surrounding eurozone sovereigns was unusually light, and spread direction was instead determined largely by fresh geopolitical turmoil, the plummeting euro and the fragile European banking system.
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Hopes that the EUR750 billion bailout announced on May 7 would alleviate the pain of the eurozone were quashed this week as uncertainty returned to the sovereign CDS market.
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After a period of unprecedented credit deterioration, sovereign credit default swap spreads rebounded sharply this week as investors digested the impact of a dramatic intervention.
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Chatter about a potential restructuring of Greek debt in recent weeks had sent markets into a tizzy, but many traders still believe the E.U. will do whatever it takes to avoid a triggering of credit default swaps referencing the nation’s debt. That’s why the CDS are still trading on a running basis, rather than upfront.