17 April 2013

FT: Naked CDS ban fuels bank funding fears

Six months on from the ban on buying naked sovereign CDS protection – where the investor does not own the underlying government bond – it is clear that negative bets against large financials have emerged as a partial replacement.

Investors are buying protection on European banks on the basis that banks and sovereigns are so intimately linked that any increased risk of a sovereign default will increase the value of a bank CDS in a similar way to a sovereign CDS. While there are plenty of reasons for an investor to want protection against a banking default amid a fresh bout of eurozone uncertainty, analysts say the sovereign ban is having a discernible impact on these numbers.

The impact on real bank funding costs is yet to show up in the data, partly because the ban has coincided with a period of bullish markets. Bank bond issuance has also been subdued at a time of access to cheap money from central banks. Investors and analysts say the real test could come during the next flare-up in the eurozone crisis, where increased demand for CDS on European financials could in turn raise borrowing costs.

Full article (FT subscription required)

© Financial Times