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For
all the bailouts that have been arranged, safety nets that have been put into
place, rules that have been bent, rights that have been trampled, and money
that has been spent trying and "fix" the financial system,
conditions still haven't returned to "normal."
In
fact, as Trader's Narrative notes in "Financial Stress Indexes Rising (Again)," some
canary-in-the-coal-mine indicators, including the widely-watched "TED spread," have been
creeping steadily higher over the past few months. The same holds true for a
less well known gauge of trouble ahead:
Another
way to measure the financial stress in the markets is through the St. Louis
Fed’s Financial Stress Index which aggregates several components,
including the TED spread:
Interest Rates:
- Effective federal funds rate
- 2-year Treasury
- 10-year Treasury
- 30-year Treasury
- Baa-rated corporate
- Merrill
Lynch High-Yield Corporate Master II Index
- Merrill
Lynch Asset-Backed Master BBB-rated
Yield Spreads:
- Yield curve:
10-year Treasury minus 3-month Treasury
- Corporate
Baa-rated bond minus 10-year Treasury
- Merrill
Lynch High-Yield Corporate Master II Index minus 10-year Treasury
- 3-month
London Interbank Offering Rate–Overnight Index Swap (LIBOR-OIS)
spread
- 3-month
Treasury-Eurodollar (TED) spread
- 3-month
commercial paper minus 3-month Treasury bill
Other Indicators:
- J.P. Morgan
Emerging Markets Bond Index Plus
- Chicago
Board Options Exchange Market Volatility Index (VIX)
- Merrill
Lynch Bond Market Volatility Index (1-month)
- 10-year
nominal Treasury yield minus 10-year Treasury Inflation Protected
Security yield (breakeven inflation rate)
- Vanguard
Financials Exchange-Traded Fund (VFH)
You
can get more information about it from the St. Louis Fed website. The
interesting thing to glean from this chart is that, unlike the TED spread,
the St. Louis Financial Stress index never really returned down to
“normal” levels (below zero):
For
data junkies, there is also the Kansas City Financial Stress Index which is a
similar composite. But it is updated monthly, rather than weekly. The latest
index data is for May (+0.31) which is showing a similar increase from the
previous months level (-0.24 in April).
To
conclude, these types of data are telling us little more than what we already
know. The world economy is fragile. The response of world governments to the
credit and debt crisis has been to substitute sovereign debt in lieu of
private debt held by financial institutions. The plan was that, things would
return to normal and then things could be unwound. The problem is
that stresses are not subsiding.
Michael
J. Panzner
Editor, Financialarmageddon.com
Michael J. Panzner is a 25-year
veteran of the global stock, bond, and currency markets and the author of
Financial Armageddon: Protecting Your Future from Four Impending
Catastrophes, published by Kaplan Publishing.
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