2014-07-23 The Revolver - The Credit Liquidity Trap

Macro Credit Research
23 July 2014

Important disclosures can be found on the last page of this publication.
Produced by The Royal Bank of Scotland plc.
In the UK, the Royal Bank of Scotland plc is authorised by the Prudential Regulation Authority and
regulated by the Financial Conduct Authority and the Prudential Regulation Authority.

Analysts

Al berto Gallo, CFA
Head of European Macro Credit
Research
+44 20 7085 5736
alberto.gallo@rbs.com

Lee Tyrrell-Hendry
Macro Credit Analyst
+44 20 7085 9462
lee.t.hendry@rbs.com

Tao Pan
Macro Credit Analyst
+44 20 7678 3122
tao.pan@rbs.com

RBS Research India
Rajarshi Malaviya
Gaurav Chhapia
Chanchal Beriwal

www.rbsm.com/strategy
Bloomberg: RBSR<GO>

The Revolver
The credit liquidity trap
Trading liquidity is evaporating out of bond markets. The recovery in credit has been
about low rates pushing capital into risky assets and helping firms to refinance. This
has made bond markets the new banks, providing most credit to the economy. But it
has also pushed investors to take higher risks. What happens if low-for-long policy
reverts and investors head for the exit? As regulators focus on banks, we fear that
systemic risk is being left unchecked in financial markets. In this report we measure the
decline in bond market liquidity, analyse the areas most exposed to a rapid sell-off, and
discuss how yield hunters can avoid getting caught by the liquidity trap.

Our Liquid-o-Meter shows liquidity in the credit markets has declined around
70% since the crisis, and it is still falling. We define liquidity as a combination of market
depth, trading volumes and transaction costs: all have worsened. We also measure
the premium for illiquidity: it is at a record low, meaning investors are not getting paid to
take liquidity risk.
Low liquidity means the exit door is becoming smaller. Retail investors play a
bigger role than ever before, owning 37% of credit. They have been taking increasing
credit risk and are as interconnected with the financial system as banks. In addition,
mutual funds and credit ETFs are exposed to a mismatch in daily liabilities vs illiquid
assets: the same imbalance that banks faced before the crisis.
The policy response: a Maginot line. What are policymakers doing in light of these
financial stability risks? Both the IMF, the BIS, the ECB and the Bank of England have
raised red flags on bond markets vulnerability and lack of liquidity. Yet, Fed Chair
Yellen continues to see moderate risks to financial stability and regulators continue
to focus on banks. This approach is close to a Maginot line, as described recently by
Dallas Fed President Richard Fisher a strong line of defence which can be
circumvented and gives a false sense of security. Unwinding QE will not only increase
risks in the banking system, but in financial markets too.
Beware of crowded mutual fund and credit ETF trades. We cross-analyse the
holdings of the largest mutual funds and ETFs in the US and Europe and provide a list
of bonds which are mostly held by retail which investors should avoid.
In Europe, the most retail-held and illiquid corporate bonds are: BACR 4% 3/4
03/29/49, LLOYDS 15% 12/21/19, CPKLN 7.239% 02/28/24, HSEGR 6% 1/8 04/23/41,
RLMI 6% 1/8 12/29/49, HTHROW 6% 1/4 09/10/18, SISIM 4% 1/2 10/26/20, TVO 6%
06/27/16, INTNED 0% 07/03/17, THAMES 5% 3/4 09/13/30, CNPFP 6% 09/14/40,
GTKIM 5% 3/8 02/02/18, CORANA 3% 1/4 02/26/21, HEIANA 2% 7/8 08/04/25 and
SPAROG 2% 05/14/18.
Investors should optimise portfolios for liquidity risk. Investors can rank credit sub-
assets (sovereign, covered bonds, unsecured, ABS/MBS, CLOs, private placements)
and optimise their portfolios by liquidity. Investors who do not need to follow a
benchmark can increase liquidity by adding exposure to short-term sovereign bonds,
while maintaining the same overall risk; or increase yield by adding sovereign bonds a
small bucket of less-liquid products (e.g. CLOs), maintaining the same overall liquidity
profile.

Credit in a liquidity drought
Trading liquidity is becoming scarcer in bond markets: a European corporate bond
issue now trades on average once per day by volume (ICMA Group), compared with
nearly 5 times per day just over a decade ago (Biais and Declerck, 2006). US corporate
bond trading volumes relative to the size of the market have been on a steady
downward trend since TRACE data started in 2005, as shown left. The SEC also shows
that nearly 20% of corporate bonds do not trade at all.
Trading volumes falling in credit
Annual US IG trading volume, % mkt
60%
70%
80%
90%
100%
110%
120%
130%
2005 2007 2009 2011 2013
Source: RBS Credit Strategy, SIFMA, MarketAxess
Two sides to the declining liquidity story: on the one hand there is a structural
decline in dealers ability to warehouse risk, largely a function of higher capital
requirements on trading assets and tighter risk limits. On the other hand the side-effect
of central banks low interest rate and quantitative easing policies is to reduce volatility,
risk premia and trading volumes with it. Both make bond markets more vulnerable to
shocks, and could exacerbate future moves in spreads.
So far, credit has been a story of inflows, positive returns and refinancing. This positive
feedback loop has helped to transmit Fed policy to the economy. In the process,
however, it has increased the importance of mutual funds and retail owners of bonds,
and made bonds the new banks. The economy, especially in the US, finds itself now
dependent on credit markets to fund its companies. But last years taper tantrum
showed this to be a fragile equilibrium, and that the flow of money into mutual funds
and retail-held credit now 37% of total can quickly retreat.
A story of inflows, so far
US HY cumulative fund flows, $bn
0
10
20
30
40
50
2010 2011 2012 2013 2014
Taper tantrum
Source: RBS Credit Strategy, AMG
There are four key questions: 1. How much is liquidity declining and why? 2. Are
investors getting paid for illiquidity? 3. What are policymakers doing about it? 4. Which
parts of bond markets are most vulnerable? We answer the first by developing an
indicator (below) and show that despite low liquidity, liquidity premia are low. The policy
response is insufficient, in our view. Finally we explore which bonds look vulnerable.
Our new Liquid-o-Meter shows that trading liquidity in US credit markets has
declined by roughly 70% and continues to worsen, but is improving in Treasury
markets. This shows the trading liquidity drought is really a credit market problem
affecting risky assets, and linked to banks capital requirements.
Retail owns 37% of US credit
US credit by investor type, %
0%
5%
10%
15%
20%
25%
F
o
r
e
i
g
n
I
n
s
u
r
a
n
c
e
H
o
u
s
e
h
o
l
d
s
F
u
n
d
s
P
e
n
s
i
o
n
s
B
a
n
k
s
O
t
h
e
r
s
2008 Q1 2014
Source: RBS Credit Strategy, Federal Reserve
And are investors getting paid for illiquidity? Not any more. Our analysis shows that the
liquidity component of credit spreads is approaching record-low levels. There are many
takeaways here: investors should avoid crowded bonds held by mutual funds or ETFs,
and should look at optimising credit liquidity in their portfolios.
RBS Liquid-o-Meter shows liquidity is still declining in credit but improving in Treasuries
Based on trading volumes, dealer inventories, bid-ask spreads and UST on vs off-the run spreads
0
20
40
60
80
100
120
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
US Treasuries US corporate bonds 100 =Dec 2006
Source: RBS Credit Strategy, Bloomberg, SIFMA, MarketAxess

The Revolver | 23 Jul y 2014
Page 2

1. How much is liquidity declining and why?
Trading volumes are declining
US credit daily trading volume, % mkt
0.0%
0.1%
0.2%
0.3%
0.4%
0.5%
0.6%
0.7%
0.8%
2005 2007 2009 2011 2013
IG HY
Source: RBS Credit Strategy, MarketAxess, SIFMA
Declining liquidity is partly a consequence of higher capital requirements under
Basel III, which have pushed banks to scale back inventories and risk taking. In
the last decade the annual turnover of the US credit market has fallen around 40% in
2005 around 1.2x the volume of the total bond market would trade each year, this has
now fallen to 0.7x, as shown on the previous page. Trading volumes are now around
$20bn/day, according to data from MarketAxess and SIFMA (left). Trading volumes in
high yield credit have rebounded somewhat in the last 2-3 years, perhaps because of
downgrades of more actively-traded fallen angels. Trading in IG credit remains close to
the low in 2008, as absolute trading volumes have stagnated while the market as a
whole has grown.
Total corporate bond inventories of US primary dealers have shrunk more than
70% from their peak in early 2007 of nearly $250bn (this included also mortgage-
backed securities though). Looking only at IG and HY bonds, current inventory levels
are roughly $20bn, still lower than they were in the past, if we estimate pre-crisis levels
using a similar ratio of IG/HY bonds to total inventories. To give a better idea, $20bn is
equal to one days trading volume and to 0.2% of the $9.8tn US corporate bond market.
Lower liquidity is partly a symptom of lower dealer inventories
US corporate bond dealer inventories, $bn. IG +HY (orange) is an estimate of past inventories
0
50
100
150
200
250
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
IG +HY CP +RMBS +CMBS
IG HY
CP RMBS
CMBS
Source: RBS Credit Strategy, Federal Reserve Bank of New York, SIFMA, MarketAxess; note: because corporate bond dealer inventories
are not broken down prior to 2013, we have assumed IG and HY inventories are in the same proportion as the average from 2013-present
Market grows but dealers pull back
Mkt size ($bn) vs dealer holdings (%)
0.0%
0.3%
0.6%
0.9%
1.2%
1.5%
2002 2005 2008 2011 2014
0
2,000
4,000
6,000
8,000
10,000
Credit market size (RHS)
Dealers' est. holdings (LHS)
Source: RBS Credit Strategy, SIFMA, MarketAxess,
Federal Reserve Bank of New York

Basel III has significantly increased the capital banks must hold against almost all
assets, particularly against low-rated corporate bonds. The restrictions on proprietary
trading instigated by the Volcker rule have likely also reduced US banks inventories.
Banks must hold more capital against bonds, especially high yield and ABS
Capital charges under standardised approach for Basel II and III
0%
2%
4%
6%
8%
10%
12%
14%
16%
Sov AAA Sov BBB Senior
Banks A
Corp A SME Loan Corp BBB HY Corp BB HY Corp B
Basel III
Basel II
Source: RBS Credit Strategy, RBS ABS Strategy, BIS

Page 3

How we measure liquidity: The RBS Liquid-o-Meter
What is trading liquidity? We can think of it as the cost of immediacy in trading. Theres
no exact way of measuring it, but we can think of liquidity in terms of of market depth,
transaction costs, and trading volumes. Heres how we build our liquidity indicators:
I. US Treasury Liquid-o-Meter:
- Treasury daily trading volumes (% bonds outstanding). Treasury trading volumes
relative to the size of the market have been declining steadily since the crisis as the
amount of debt outstanding has risen. Nevertheless, volumes are still much higher than
for other asset classes, with more than 4% of the market trading each day.
- On-the-run/off-the-run Treasury spread (% mid yield). The on-the-run/off-the-run
spread is now close to pre-crisis lows of just a few basis points.
- Treasury bid-ask (% mid yield). Treasury bid-ask spreads have been declining
gradually relative to yields in recent years to under 1% from close to 1.5% at peak.
Trading volumes heading lower
Average daily trading volumes, % mkt size
Declining premium for on-the-run bonds
On-the-run/off-the-run spread, % mid yield
Bid-ask spreads coming down
10y Treasury bid-ask spread, % mid yield
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
05 06 07 08 09 10 11 12 13 14

-1%
0%
1%
2%
3%
05 06 07 08 09 10 11 12 13 14
-1%
0%
1%
2%
05 06 07 08 09 10 11 12 13 14
Source: RBS Credit Strategy, SIFMA Source: RBS Credit Strategy, Bank of England Source: RBS Credit Strategy, Bloomberg

II. Credit Liquid-o-Meter:
- Corporate bond daily trading volumes (% bonds outstanding). Credit trading
volumes have been stable in absolute terms at around $20bn/day over the last 5 years,
but the corporate bond market has grown by around 60% since 2007, so daily volumes
have gradually declined to around 0.2% relative to the size of the market.
- Corporate bond dealer inventories (% bonds outstanding). Total corporate bond
inventories have declined around 75% since the peak in 2007, although this also
includes non-agency MBS. IG and HY inventories are just 0.2% of the market.
- US HY CDS bid-ask (% mid yield). Bid-ask spreads have tightened since the crisis,
but overall spreads have tightened more. As a proportion of the overall credit spread
bid-ask spreads have been rising very slightly, and remain well above pre-crisis levels.
Trading volume gradually trending down
Average daily trading volumes, % mkt size
Dealer inventories are down
Dealer corporate bond inventories, % mkt
Bi d-ask spreads sti l l goi ng up i n credi t
CDX HY members bid-ask, % CDS spread*
0.0%
0.1%
0.2%
0.3%
0.4%
0.5%
0.6%
0.7%
2005 2007 2009 2011 2013

0.0%
0.5%
1.0%
1.5%
05 06 07 08 09 10 11 12 13 14
0%
2%
4%
6%
8%
10%
05 06 07 08 09 10 11 12 13 14
Source: RBS Credit Strategy, SIFMA Source: RBS Credit Strategy, SIFMA, Federal Reserve Bank
of New York
Source: RBS Credit Strategy, Bloomberg; *we use US HY
cash OAS spreads prior to 2004

Page 4

2. Measuring the premium for liquidity risk
The premium for liquidity risk is close to pre-crisis lows across all fixed income
markets. The Bank of England dedicated part of its latest Financial Stability Report to
liquidity risk, and specifically to estimating the liquidity risk premium. All of its measures
suggest that the liquidity risk premium is at historically low levels across fixed income.
Small premium in on-the-run USTs
10y UST on vs off-the-run spread, bp
-10
0
10
20
30
40
50
60
70
1990 1994 1998 2002 2006 2010 2014
Source: RBS Credit Strategy, Bank of England,
Federal Reserve, Thomson Reuters Datastream
Government bond markets price a low premium, perhaps because liquidity has
been improving in recent years, as our Liquidity-o-Meter shows. Firstly, the spread
between on-the-run and off-the-run Treasury bonds is at historically low levels close to
zero, as shown left. In Europe, benchmark Bunds have historically shown a negligible
liquidity premium, so the on-the-run/off-the-run spread has less relevance, as this paper
from the SNB discusses: Liquidity premia in German government bonds, J uly 2009.
However, bid-ask spreads on 10-year periphery government bonds are back to the
levels of 2010 and before pre-sovereign debt crisis, as shown left.
Credit markets have been hit hardest by the retrenchment of liquidity-providing
dealers, but estimates of the liquidity risk premium suggest investors are not
being compensated for this. Bid-ask spreads on the 5-year CDS of iTraxx and CDX
index members are close to post-crisis lows, as shown below. MarketAxess shows here
the collapse in bid-ask spreads of corporate bonds: they have fallen from over 40bp in
2008 to less than 6bp now, across US and European credit. Even since the beginning
of 2013, Euro bid-ask spreads have fallen 25%, from 0.75% of par to less than 0.6%,
with a similar decline in Sterling bonds.
Back to lows for periphery bid-ask
15d MA bid-ask on 10y govvies, pips
0
200
400
600
800
1,000
2010 2011 2012 2013 2014
Germany
Italy
Spain
Source: RBS Credit Strategy, Bloomberg
The Bank of Englands structural models (below) also show that liquidity risk premia are
lower than historical averages and approaching decade-and-a-half lows across credit,
in particular US high yield.
Our estimates suggest the liquidity risk premium in Euro high yield credit has
hal ved in the last year, and is close to pre-crisis lows. We decompose high yield
spreads into a premium for volatility risk (using the VIX index), default risk (using
Moodys data on corporate bond defaults) and liquidity risk (the remainder). This
suggests that the liquidity risk premium has nearly halved within the last year, to less
than 80bp, close to the pre-crisis lows of around 50-60bp. For the full methodology,
please see: The Revolver | Credit spreads: Towards the bottom in 2014, 5 March 2014.
Liquidity risk premia are near lows
Decomposition of HY spreads, bp
0
200
400
600
800
1,000
1,200
1,400
00 02 04 06 08 10 12 14
Volatility risk
Default risk
Liquidity risk
Source: RBS Credit Strategy, Bloomberg, Moodys
Credit bid-ask getting wider
Members CDS bid-ask, % spread
0%
1%
2%
3%
4%
5%
6%
7%
8%
9%
06 07 08 09 10 11 12 13 14
iTraxx Xover CDX HY

The BoE estimates credit liquidity risk premia are close to pre-crisis lows
Deviations of estimated corporate bond liquidity risk premia from historical averages
-200
-100
0
100
200
300
400
500
600
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
USD HY
USD IG (RHS)
EUR IG (RHS)
GBP IG (RHS)
Source: RBS Credit Strategy, Bank of England

Page 5

3. The policy response: A Maginot Line
"There are some who believe that "macroprudential supervision" will safeguard us from
financial instability. I am more skeptical. Such supervision entails the vigilant monitoring
of capital and liquidity ratios, tighter restrictions on bank practices and subjecting banks
to stress tests. Although these macroprudential disciplines are important steps in
reducing systemic risk, I also think it is important to remember that this is not your
grandparents' financial system. The Federal Reserve and the banking supervisory
authorities used to oversee the majority of the credit system by regulating depository
institutions; now, depository institutions account for no more than 20 percent of the
credit markets. So, yes, we have appropriately tightened the screws on the depository
institutions. But there is a legitimate question as to whether these safeguards represent
no more than a financial Maginot Line, providing us with an artificial sense of
confidence."
Richard W. Fisher, Dallas Fed President, 16 J uly 2014
There are two types of macro prudential policy: one that reduces the probability of
bubbles, and another that reduces the impact of bubbles when they burst. The US
currently seems more focused on the second, strengthening the banking system
through higher capital requirements so it can withstand another bubble bursting.
However, the banking system only accounts for around 20% of the US credit market, as
Dallas Fed President Fisher highlights above. By focusing on the banking system, we
think macro-prudential policy is ignoring systemic risk in financial markets, as we have
discussed earlier (FT).
Policymakers are aware of the problem. The Fed is trying new ways to enhance its
control on financial markets, for example its new reverse repo program could help to
enhance control of short-term rates as the Fed approaches a potential reduction of its
balance sheet post tapering. That said, asset managers have largely escaped
additional regulation and capital requirements that banks and insurers have faced.
Common knowledge says they carry less risk but the paradigm may be changing, as
trading liquidity dries up and funds remain exposed to daily withdrawal risk.
Our analysis below shows some mutual funds and credit ETFs have very concentrated
positions in some bonds, many of which are small and illiquid. Given the banks
reduced ability to provide liquidity, we think there is a risk that these mutual funds and
ETFs could face large redemptions and a limited ability to sell assets if the market
turns, worsening a sell-off.
The pool of good collateral shrinks
Supply of T-bills is decreasing, $bn
0
500
1000
1500
2000
2500
3000
2009 2010 2011 2012 2013 2014
Q1/J an
Agency securities T-bills
Source: RBS Credit Strategy, GPO, SIFMA
The Feds reverse repo program
The Feds new reverse repo program: a useful tool for controlling short-term
rates, or an overreach into financial markets which may exacerbate funding
stress in a future crisis? In its J une meeting, the FOMC members discussed that the
new fixed rate overnight reverse repurchase facility (RRP) could support its exit
strategy by acting as a complement to the interest rate on excess reserves (IOER) and
helping to strengthen the floor under money market interest rates.
The RRP works by helping to address one of the collateral effects of QE: the
shortage of high quality liquid collateral in the financial market. The Fed
introduced a 25bp interest on banks excess reserves in 2008, which discourages
banks to lend at any rate below the IOER. However, other cash-rich non-bank market
participants are ineligible for such interest. Thus they would be willing to lend out their
cash at much lower rates than the IOER in the repo market, making it harder for the
Fed to control short-term rates. This is especially so as the pool of high quality
collateral shrinks on the Fed purchase programme and lower Treasury bill supply. With
the RRP, the Fed hopes to enlarge the range of counterparties eligible to trade directly

Page 6

with itself. As a non-bank financial entity will only put cash in another private entity if it
offers higher rates than the RRP rate, the Fed could effectively set a lower bound on
overnight rates. On the other hand, as banks deposit as reserves at the Fed any cash
from other market participants, the IOER will act as an upper bound on overnight rates.
Through the two new tools, the Fed could have better control over the short-term
market rates, as also discussed by former FOMC Governor J eremy Stein in an
interview with the Washington Post.
But it may risk crowding out pri vate funding channels and disrupting the
financial market. As pointed out by both the FOMC and Stein, the RRP could also
unintentionally expand the Feds role in financial intermediation. Market participants
may be encouraged to shift investments towards the facility and away from other
private counterparties in times of financial stress. This could cause disruption to the
funding markets and further exacerbate any liquidity shortage. Manmohan Singh, a
senior economist at the IMF, also suggested recently that the RRP if done on a large
scale could rust the market plumbing (FT). This is because the RRP puts practical
restrictions on the reuse of collateral outside the tri-party repo system, which may in
turn create wedges between rates in the tri-party repo and bilateral repo markets. To
reduce such problems, the FOMC and Stein proposed to limit the size of the facility or
set a relatively wide spread between RRP and IOER rates. The FOMC also suggested
that it will likely only be a temporary facility.
Feds QE programme removes good collateral from the repo market
Daily average collateral value in the tri-party repo market vs Fed holdings, $bn
200
700
1200
1700
2200
2700
2011 2012 2013 2014
Agency securities Treasury securities
Other Fed holdings of agency securities
Fed holdings of Treasury securities
Source: RBS Credit Strategy, SIFMA, Federal Reserve Bank of New York,

Interconnectedness in the US financial system
Despite the Feds efforts to better control money market rates, it cannot control all parts
of the financial system and bond markets. Asset managers are becoming larger and
strongly interconnected, as Fed-induced low volatility pushes them to take similar
positions across markets. On the next page we show the interconnectedness of the US
financial system using Bloomberg data on the top 10 bond and stock cross-holdings of
the major banks and asset managers (the chart is indicative and does not include all
US investment firms).
A number of asset managers like BlackRock, Berkshire Hathaway, State Street and
Eaton Vance are just as connected and central to the financial system as systemically
important banks like J P Morgan, Goldman Sachs, Citigroup and Wells Fargo as
shown on the next page.

Page 7

Page 8
Asset managers are central to the financial system, as are banks
Interconnectedness of the US financial system. Calculated using the top 10 cross-holdings in bonds and stocks. Not inclusive of all firms.
Mellon Capital Management
Fidelity
Eagle Capital
Management
Geode Capital
Management
J anus Capital Management
Brown Brothers
Harriman & Co
Cascade Investment
Gates Bill & Melinda
Foundation
Baillie Gifford
Mizuho
State Farm Mutual
Automobile Insurance
Fairholme
Capital
Management
Harris
Associates
AIG
Northern Trust
Corporation
Franklin
Resources
Nippon Life
Insurance
American Century
Companies
Systematic
Financial
Management
Citadel
Advisors
AJ O
LSV
Asset
Management
Cramer
Rosenthal
Mcglynn
Allianz
Ameriprise
Financial
Robeco
Columbia Wanger
Asset Management
Earnest Partners
Institutional Capital
Corporation
Longview Partners
Herndon Capital
Management
Sarofim, Fayez
London Company
of Virginia, (The)
J ennison
Associates
Eaton Vance
Brown Advisory
SPO Advisory
First Eagle Investment
Management
Primecap
Management
BB&T Corporation
Fiduciary Management
Southeastern Asset Management
Viking Global Investors.
Davis Selected Advisers
Fifth Third Bancorp
KeyCorp.
Mitsubishi UFJ
Morgan Stanley
Regions Financial
JP Morgan
State Street
BlackRock
PNC Financial
Services
Wells Fargo
Berkshire Hathaway
Bank of America
Invesco
Principal Financial
Group
Capital Research
Global Investors
T. Rowe Price
Northern Trust
Corporation
Norges Bank IM
SunTrust Banks
Goldman
Sachs
Citigroup
Vanguard Group
Capital World
Investors Massachusetts
Financial
Services
Dodge & Cox
Bank of New
York Mellon
Capital One
Barrow, Hanley
Mewhinney & Strauss
American Express
FMR
M&T Bank Corporation
U.S. Bancorp
Wellington
Management
Company
Charles Schwab
Source: Massimo Cutuli; RBS Credit Strategy

The US financial circuit: Asset managers and money market funds play a big role
T
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e

R
e
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o
l
v
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r

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2
3

J
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2
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1
4
P
a
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9

Equity Bonds and loans Short-term
Public sector
Real economy Financial system
USTs
Reserves
Federal Reserve ($4.4tn)
MBS
Currency
Money Market Funds ($2.6tn)
USTs
MM units
Prime
financial
assets
Banks ($14.7tn)
Reserves
Deposits
Loans
Securities
Bonds
Equity
Property
& durable
goods
Net
wealth
Households ($95.5tn)
Financial
assets
Loans &
mortgages
Corporates ($35tn)
Financial
assets
Loans
Non-
financial
assets
Bonds
Equity
Bonds
Mutual Funds ($12.8tn)
Equities
Units
Government ($19.9tn)
Assets
USTs
Future
tax
claims
Benefits
payable
Equity Bonds and loans Short-term
Public sector
Real economy Financial system
USTs
Reserves
MBS
Currency
USTs
Reserves
MBS
Currency
USTs
MM units
Prime
financial
assets
USTs
MM units
Prime
financial
assets
Banks ($14.7tn)
Reserves
Deposits
Loans
Securities
Bonds
Equity
Banks ($14.7tn)
Reserves
Deposits
Loans
Securities
Bonds
Equity
Property
& durable
goods
Net
wealth
Financial
assets
Loans &
mortgages
Property
& durable
goods
Net
wealth
Financial
assets
Loans &
mortgages
Corporates ($35tn)
Financial
assets
Loans
Non-
financial
assets
Bonds
Equity
Corporates ($35tn)
Financial
assets
Loans
Non-
financial
assets
Bonds
Equity
Bonds
Equities
Units
Bonds
Equities
Units
Government ($19.9tn)
Assets
USTs
Future
tax
claims
Benefits
payable
Source: RBS Credit Strategy, Federal Reserve, ICI

4. Bonds vulnerable to shallow markets
Low levels of risk premia, low liquidity and the fact that regulators have been
mostly focused on banks beg the question: is there something they are missing?
And has systemic risk moved from banks to bond markets? As former Fed Governor
J eremy Stein used to say, bond markets are the new banks providing most of credit
in the US financial system, as well as a large fraction of credit to core European
economies. And as the IMF wrote in its last assessment of the US economy, some
investors in bond markets (mutual funds and ETFs) are taking high credit risk and are
exposed to an asset-liability mismatch the same risks banks were exposed to in
2007.
Beware of crowded retail and ETF holdings. Last years taper tantrum showed how
just a change in Fed guidance can impact markets. High yield, mutual funds and ETFs
in particular were the biggest losers. Going forward, we think investors should stay
away from parts of the market which are too heavily owned by retail investors, or by
ETFs. We analyse these areas of vulnerability below.
ETFs sold off more than cash bonds during the tapering tantrum last year
Total return during tapering selloff (22 May-29 Aug 2013), %
-16%
-12%
-8%
-4%
0%

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Indices
Sectors
Periphery
ETFs

Retail-held bonds are vulnerable from low liquidity
Retail investors now own 37% of the US credit market; but this exposes heavily
retail-owned bonds to redemption risk. Mutual funds specifically own around 17% of
the market, as shown left. The top 5 mutual fund managers control 50% of all US
mutual fund assets, and the top 25 manage 75%, which could make the industry
particularly vulnerable to herding behaviour. In its report on the financial stability risks
from the asset management industry, the US Treasurys Office of Financial Research
said reaching for yield and herding behaviors is the number 1 factor that makes the
industry vulnerable to shocks two things that characterise todays financial markets.
Retail owns 37% of US credit
US credit by investor type, %
0%
5%
10%
15%
20%
25%
F
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2008 Q1 2014
Source: RBS Credit Strategy, Federal Reserve
The top 15 US mutual funds collectively manage around 10% of the assets of all US
mutual funds. If the top 15 mutual funds have a market-weight allocation to a bond they
should hold around 1.7% of the amount outstanding (17% mutual fund share x 10%
share of the top 15 funds). However, many bonds are much more held by mutual funds;
for some more than 40% of the amount outstanding is held by mutual funds.

Page 10

We list the most mutual fund-held corporate bonds below; each is more than 15% held
by the top 15 funds. Moreover, the largest holdings of the top funds are in small, illiquid
bonds; only 3 of the top 50 most-held bonds have more than $1bn outstanding.
The high concentration of retail ownership of the bonds listed below makes them
more exposed to redemption risk if and when the market turns, in our view. This
concentration of holdings and interconnectedness of buy-side firms can pose risks to
the market and potentially also to broader financial stability, as with banks during the
crisis. When many buy-side firms have all built up similar positions, if they need to exit
those positions then that can lead to many funds all heading for the door at the same
time a door which is now smaller than it was a few years ago. As we show left, mutual
fund flows are highly correlated with lagged returns; in other words: when the market
loses, people take out their money. This could create a feedback loop on the bonds
below that are particularly held by retail funds, as the funds sell their holdings to meet
redemptions.
Bad returns lead to outflows
4w US HY flows vs returns (1w lag)
R
2
=0.4926
-8%
-4%
0%
4%
8%
-15 -10 -5 0 5 10 15
US HY fund flows
US HY returns
Source: RBS Credit Strategy, AMG, Federal
Reserve
This is comparable to a risk that J eremy Stein highlighted in one of his last speeches as
FOMC Governor; that a small group of investors with very strong beliefs are those most
likely to leverage their positions and sway market prices. In the scenario above, it is a
large group of investors with very similar positions and no leverage necessary that
sways market prices. In both cases a relatively small change in positioning among
either group of investors can cause large moves in prices.
ETFs are susceptible to sell-offs
Premium/discount to NAV, 30d MA
-1.0%
-0.5%
0.0%
0.5%
1.0%
1.5%
J an-13 J ul-13 J an-14
IHYG (Europe HY)
J NK&HYG (US HY)
EMLC (EM)
ETFs underperform the most in sharp sell-offs
ETFs are the most exposed to outflows and redemption risk. Fixed income ETFs in
the US have grown from nothing in 2001 to $276bn in May 2014, according to ICI data.
This equates to less than 1% of the bond market, but our analysis suggests that ETFs
own up to 10-15% of certain corporate issues. In high yield, ETFs are bigger and
amount to over 2% of market size.
How the negati ve feedback loop works in credit ETFs: if investors sell sharply, the
ETF traded price would rapidly drop below its Net Asset Value, the value of its holdings.
ETFs have to rebalance every day, and to do so, the fund would have to sell bonds to
buy back (redeem) its own shares. Given the illiquidity of some of the bonds held, ETFs
without an appropriate cash buffer may have to sell bonds pushing down their price
sharply, in turn making their NAV lower the next day, and so on.
US high yield ETFs fell to a -1% discount to NAV for several days during the taper
tantrum, while the local currency emerging market bond (EMLC) traded at a discount to
its NAV for nearly a year almost due to large outflows from EM bonds following the
taper tantrum last year. Almost all ETFs underperformed their cash benchmarks during
the taper tantrum last year, as shown on the previous page. The IMF warned about
credit ETFs in the financial stability section of its latest article on the US economy.
In the next page, we show a list the most crowded bonds held by both the largest
mutual funds and credit ETFs.

Page 11

Crowded retail trades: the bonds most held by US mutual funds
Largest corporate bond holdings of the top 15 US mutual funds, % amount outstanding; small (<$500mn) bonds in grey
Name Ticker Industry
Amount
outstanding
MF holdings
($mn-equiv)
MF holdings
(%of float)
FREEPORT-MCMORAN COPPER FCX 7.625 04/01/20 Materials 300 141 47.0%
GOLDMAN SACHS GS 1.748 09/15/17 Financial 300 122 40.7%
HOST HOTELS & RESORTS HST 6 11/01/20 Financial 500 186 37.2%
SPRINGLEAF AMGFIN 7.75 10/01/21 Financial 650 196 30.1%
KINDER MORGAN ENERGY KMP 7.125 04/01/21 Energy 332 99 29.9%
HOST HOTELS & RESORTS HST 5.875 06/15/19 Financial 500 140 28.1%
SPRINGLEAF AMGFIN 8.25 10/01/23 Financial 300 79 26.2%
HCA HCA 7.69 06/15/25 Consumer 291 71 24.2%
PULTEGROUP PHM 6 02/15/35 Consumer 300 65 21.8%
MACK-CALI REALTY CLI 3.15 05/15/23 Financial 275 59 21.6%
BANK OF MONTREAL BMO 5 01/17/17 Financial 205 44 21.5%
ENERGY TRANSFER PARTNERS ETP 9 04/15/19 Energy 450 92 20.5%
FEDERAL FARM CREDIT BANKS AGRIBK 9.125 07/15/19 Government 500 101 20.1%
FREEPORT-MCMORAN COPPER FCX 6.625 05/01/21 Materials 390 78 20.0%
UNUM GROUP UNM 5.75 08/15/42 Financial 250 47 19.0%
CENTURYLINK CTL 6.875 07/15/28 Telecoms 352 64 18.2%
GEORGIA-PACIFIC GP 7.75 11/15/29 Materials 500 88 17.6%
EQUITY ONE EQY 3.75 11/15/22 Financial 300 49 16.2%
ASSOCIATED BANC-CORP ASBC 5.125 03/28/16 Financial 430 70 16.2%
SPRINGLEAF AMGFIN 6.9 12/15/17 Financial 2,061 333 16.2%
BRANDYWINE REALTY TRUST BDN 3.95 02/15/23 Financial 250 40 16.0%
MARQUETTE TRANSPORTATION MARTRA 10.875 01/15/17 Industrial 250 40 16.0%
NEW ALBERTSONS NEWALB 7.45 08/01/29 Consumer 650 103 15.9%
J OHNSON & J OHNSON J NJ 2.15 05/15/16 Consumer 900 143 15.9%
Source: RBS Credit Strategy, Reuters, Bloomberg

Crowded retail trades: the bonds most held by European mutual funds
Largest corporate bond holdings of the top 15 European mutual funds, % amount outstanding; small (<500mn) bonds in grey
Amount
Outstanding
MF holdings
(mn-equiv)
MF holdings
(% of float)
BARCLAYS BANK (T1) BACR 4 3/4 03/29/49 Financial 319 66 20.8%
LBG CAPITAL LLOYDS 15 12/21/19 Financial 890 183 20.6%
CPUK FINANCE CPKLN 7.239 02/28/24 Consumer 557 104 18.6%
HSE NETZ HSEGR 6 1/8 04/23/41 Utilities 320 58 18.2%
RL FINANCE BONDS RLMI 6 1/8 12/29/49 Financial 311 50 16.0%
HEATHROW FUNDING HTHROW 6 1/4 09/10/18 Industrial 506 80 15.8%
SOCIETA INIZ AUTOSTRADAL SISIM 4 1/2 10/26/20 Consumer 500 74 14.9%
TVO TVO 6 06/27/16 Utilities 271 40 14.7%
ING BANK INTNED 0 07/03/17 Financial 600 88 14.6%
THAMES WATER UTIL THAMES 5 3/4 09/13/30 Utilities 380 55 14.5%
CNP ASSURANCES CNPFP 6 09/14/40 Financial 750 108 14.4%
GTECH GTKIM 5 3/8 02/02/18 Consumer 500 68 13.6%
CORIO CORANA 3 1/4 02/26/21 Financial 500 68 13.6%
HEINEKEN HEIANA 2 7/8 08/04/25 Consumer 750 90 12.0%
SPAREBANK SPAROG 2 05/14/18 Financial 500 60 11.9%

Page 12

Crowded ETF trades: the small bonds most held by credit ETFs
Largest corporate bond holdings of the top 13 US ETFs, % amount outstanding; small (<$500mn) bonds in grey
Amount
outstanding
ETF holdings
($mn-equiv)
ETF holdings
(%of float)
DEXIA DEXGRP Float 11/13/15 Financial 500 80 16.0%
DJ O FIN ENMC 9.875 04/15/18 Consumer 440 52 11.8%
INTELSAT INTEL 6.75 06/01/18 Telecoms 500 55 11.1%
E*TRADE FINANCIAL ETFC 6 11/15/17 Financial 505 55 10.9%
CHS/COMMUNITY HEALTH SYS CYH 5.125 08/15/18 Consumer 1,600 167 10.4%
ASHLAND ASH 3.875 04/15/18 Materials 700 73 10.4%
AVAYA AVYA 7 04/01/19 Telecoms 1,009 97 9.6%
ALERE ALR 8.625 10/01/18 Consumer 400 37 9.2%
TRANSUNION TRUN 9.625 06/15/18 Consumer 600 54 9.0%
HUNTINGTON INGALLS HII 6.875 03/15/18 Industrial 600 53 8.8%
NATIONAL RURAL UTIL NRUC 1.1 01/27/17 Financial 300 26 8.7%
CNH INDUSTRIAL CNH 3.875 11/01/15 Industrial 750 64 8.5%
ALGECO SCOTSMAN GLOB FIN ALGSCO 8.5 10/15/18 Consumer 1,075 90 8.4%
CENTURYLINK CTL 6 04/01/17 Telecoms 500 42 8.3%
AIRCASTLE AYR 6.75 04/15/17 Financial 500 41 8.2%
FMG RESOURCES FMGAU 6 04/01/17 Materials 1,000 82 8.2%
ALERIS INTL ARS 7.625 02/15/18 Materials 500 41 8.2%
SMITHFIELD FOODS SFD 7.75 07/01/17 Consumer 497 40 8.0%
EXCO RESOURCES XCO 7.5 09/15/18 Energy 750 60 8.0%
CONSTELLATION BRANDS STZ 7.25 05/15/17 Consumer 700 56 8.0%

Implications for credit portfolio management:
Liquidity optimisation
If liquidity becomes scarcer, then fund managers should take that into account in their
portfolio construction. One key issue is that it is hard to exactly measure the liquidity of
each asset. But assuming a liquidity ranking (below) with perfect liquidity =10 for cash
and complete illiquidity =1 for private placements, we provide an interesting example.
A traditional portfolio 95% made of IG triple-B bonds and 5% in cash would have an
average liquidity factor of 7.15 and a yield of 1.7%. But by reducing the weight of IG
corporate bonds and increasing the weight of sovereigns, for example, investors can
improve liquidity and at the same time add a higher yielding bucket (a 1% in triple-B
CLO tranches). There are of course many combinations (and investors with a
benchmark may be limited in their degrees of freedom) but this simple example
suggests that investors should consider sovereign debt to improve the liquidity of their
portfolios, as well as potentially barbelling their liquidity profile.
Portfolio managers can improve their liquidity profile without losing yield
Indicative yields are for 5-year BBB-rated bonds
Asset Old weight New weight
Liquidity rank
(10 =highest) Yield
Cash 5% 4% 10 0.0%
Sovereign (Italy and Spain 3-yr) 0% 5% 9 0.7%
Covered (Italy and Spain) 0% 0% 8 1.3%
IG corporate 95% 90% 7 1.8%
HY corporate (BB) 0% 0% 5 3.0%
CMBS 0% 0% 3 3.0%
CLO 0% 1% 2 4.2%
Private placements 0% 0% 1 3.5%
Old portfolio 100% 100% 7.15 1.7%
Optimised portfolio

7.17 1.7%
Source: RBS Credit Strategy

Page 13

Page 14
Appendix
We used FT Fund & ETF Screener to rank mutual funds and ETFs according to
their total net assets. We then look at the holdings of the top mutual funds and
ETFs to identify the most crowded bonds.
We have included holdings of the following US funds:
- DFA FIVE-YEAR GLOBAL FIXED INCOME PORTFOLIO
- EATON VANCE FLOATING-RATE FUND
- FIDELITY ADVISOR FLOATING RATE HIGH INCOME FUND
- FIDELITY SERIES INVESTMENT GRADE BOND FUND
- FIDELITY STRATEGIC INCOME FUND
- FIDELITY TOTAL BOND FUND
- J P MORGAN CORE BOND FUND
- LOOMIS SAYLES BOND FUND
- LORD ABBETT INV TRUST INCOME FUND
- PIMCO EMERGING LOCAL BOND FUND
- PIMCO HIGH YIELD FUND
- PIMCO INCOME FUND
- PIMCO LOW DURATION FUND
- PIMCO SHORT TERM FUND
- STRATEGIC ADVISERS CORE INCOME FUND
We have included the holdings of the following US ETFs:
- AGG US Equity
- BKLN US Equity
- CIU US Equity
- CSJ US Equity
- EMB US Equity
- FLOT US Equity
- HYG US Equity
- HYS US Equity
- J NK US Equity
- LQD US Equity
- MINT US Equity
- SCPB US Equity
- SJ NK US Equity
We have included the holdings of the following European funds:
- BLUEBAY-INV GRADE BD FD-I
- DEGROOF BONDS CORP EUR-A-C
- DWS EURORENTA
- DWS COVERED BOND FUND
- HENDERSON HORIZ- CORP BD-IA
- INTERFUND-EUR CORPORATE BOND
- INVESCO EURO CORP BOND-C
- KBC BONDS CORPORATE EURO-B
- M&G EURPN CORP BD--C-ACC
- MORGAN ST-EURO CORP BD-Z
- NORDEA CORPORATE BOND I-GR
- PARVEST BOND EURO CORP-MC
- SCHRODER INTL EURO CORP-CAC
- STANDARD LIFE-EU CORP BOND-D
- VANGUARD EURO INV GR IDX-INS

The largest mutual funds in fixed income
ETFs have grown in size over the past years
Fidelity TOTAL BOND 15.1 Fidelity FLO RATE 16
Fidelity CORE 18
Fidelity IG 22.9
PIMCO-LOW DUR 23.3
LOOMIS BOND 24.6
J PM CORE 24.8
DoubleL TOT-RE 33.8
LA-SH DUR 36.2
PIMCO INCOME 37
M&G AA 29.3 CARM-PATRI-AA 30.9
Orbis 14
SHY 7.88
J NK 9.3
PFF 10.3
CSJ 11.8
TIP 13.2
HYG 12.6
AGG 17.8
IWR 10.2
EZU 10.6
DIA 11.3
IUSA 13.4
DVY 14
LQD 17.4
DAXEX 22
IWM 24
GLD 33.8
EEM 41.2
QQQ 45.6
IVV 58.8
Man AHL 7.9
Renaissance 7.92
Palomino 7.98
Lansdowne Dev Mkt 8.1
Citadel 8.24
Oculus 9
Third Point 13.9
Viking 19.8
Adage 25.3
J PM $ LIQ 23.2
Amundi TRES-ICC 24.1
HSBC $ LIQ-A 23.7
SG-Monet Plus-IC 24.3
Insight LIQ 28.8
Amundi TRE EO-IC 30.4
GS LIQ 31.4
ICS LIQ-AG 50.1
J PM LQ-IND 67.4
-10%
-5%
0%
5%
10%
15%
20%
25%
30%
Mutual fund ETFs Hedge Funds Money Market
Commodity Equity Fixed Income Mixed Allocation Money Market
Source: RBS Credit Strategy, Bloomberg, Financial Times; we use 1-year returns for the following funds, as 3-year data is not available: ICS LIQ-AG, GS LIQ, LGIM LIQ, Insight LIQ, HSBC $ LIQ-A
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Bibliography
Bank of England | Financial Stability Report, J une 2014
BlackRock | Setting New Standards: The Liquidity Challenge II, May 2013
International Monetary Fund | 2014 Article IV Consultation with the United States of
America, Concluding Statement of the IMF Mission, J une 2014
M&G Bond Vigilantes | Corporate bond market liquidity flush or flushed?, 4 December
2012
ESMA | Transparency of corporate bond, structure finance product and credit
derivatives markets, 10 J uly 2009
SEC Fixed Income Roundtable | Michael A. Goldstein: Corporate Bonds
Biais, B.; Declerck, F. (2013), Liquidity, Competition & Price Discovery in the European
Corporate Bond Market, Toulouse School of Economics
Chen, G.; Cui, R.; He, Z.; Konstantin, M. (2013), Quantifying Liquidity and Default Risks
of Corporate Bonds over the Business Cycle, Chicago Booth
Dick-Nielsen, J . (2013), Dealer Inventory and the Cost of Immediacy, Copenhagen
Business School
Dick-Nielsen, J .; Feldhtter, P.; Lando, D. (2012), Corporate bond liquidity before and
after the onset of the subprime crisis, J ournal of Financial Economics 103
Ejsing, J . W.; Sihvonen, J . (2009), Liquidity premia in German government bonds,
Swiss National Bank
Fisher, R. W. (2014); Monetary Policy and the Maginot Line, Federal Reserve Bank of
Dallas
Gallo, A. (2014); Fed has grown complacent on credit market risk, Financial Times
Scott-Quinn, B.; Cano, D., European Corporate Bond Trading the role of the buy-side
in pricing and liquidity provision
Schultz, P. (1998), Corporate Bond Trading Costs and Practices: A Peek Behind the
Curtain, University of Notre Dame
Singh, M. (2013), Collateral and Monetary Policy, IMF Working Paper

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Trade map: summary of trade ideas, country/sector and bank recommendations

Periphery

Core Europe Semi-Core Non-EMU US EM Spain Ital y Ireland Portugal Greece Overall
Ins sub Generali OW 25%

SG, Credit Ag, BNP,
ING, ABN, KBC
Lloyds
Caixabank,
Popular, Sabadell
BES
Bank sub
Deutsche Bank,
Commerzbank
Rabobank
SEB, Nordea,
Handelsbanken,
Swedbank, Danske

OW 30%

SG, Credit Ag, BNP,
ING, ABN, KBC
Lloyds Popular, Sabadell
Intesa, Monte,
Popolare
Bank of Ireland
BES, Caixa
Geral
Piraeus
Bank senior Deutsche Bank,
Commerzbank,
Erste, RBI
Rabobank
Barclays, HSBC,
SEB, Handelsbank,
Swedbank, Nordea,
Danske
Santander UniCredit
OW 10%
Ins senior OW 10%
Telecoms
BT, Everything
everywhere
OW 10%

Telenor,
Teliasonera,
Ericsson

Utilities
Fortum GDF Suez, EDF
OW 10%
Fins Services OW 5%
Siemens Atlantia CRH
Industrials
Rolls Royce
OW 5%
Cons
Services
Publicis, Casino Compass Lottomatica UW -15%

BAT, Imperial
Tobacco
CCHB
Cons Goods
Unilever, Danone
Nestle, Svenska
Cellulosa, M&S,
Morrisons, Tesco

UW -15%
Technology UW -50%
Oil & Gas Total, Shell Statoil ENI UW -50%
DSM, Solvay Holcim
Materials
Linde, BASF
UW -55%
Healthcare Bayer Sanofi
UW -75%
HY
Cirsa, Ence,
Gestamp,
Campofrio, Bezinc
Buzzi, Cerved,
Bormioli, IVS, Ei
Towers, Guala,
Lecta, Zobele, Sisal
Portucel
OTE, FAGE,
Frigoglass,
Yioula
Glassworks
OW
Overall UW OW OW UW UW OW OW OW OW OW OW
Source: RBS Credit Strategy

Our views in bullets
Spreads. We expect political risks to subside, growth and budgets improve, and banks
continue to rebuild capital in Eurozone. The ECB will become Europes bank regulator
in September 2014, which will favour convergence across core-periphery bank
spreads. We forecast investment grade spreads will be 50bp at year-end and high yield
will decline to 200bp.
Default rates. We think default rates will fall to around 1%, on improving growth,
stabilisation in unemployment and lending as well as a decline in the proportion of very
low-rated companies. Default rates in the US instead will remain around 2%, on higher
re-leveraging and shareholder-friendly activity.
Ratings. Ratings will gradually turn upwards for sovereigns on better growth, and later
on for banks on new policies from the ECB, EIB and structural reforms to the banking
system. Ireland, Portugal and Spain will benefit from positive rating actions.
Financials. We are long financials. We stay long periphery banks in senior debt on
improving capital and liquidity as well as negative net supply of bonds, and long senior
and sub debt in UK, France, Holland and Spain. Bank sub debt will continue to
outperform this year, on ECB measures to strengthen banking system and more
issuance of equity. We avoid banks that are dependent on investment banking and
which trade too tight in core Europe and Scandinavia which could face increasing
regulatory risk. We also avoid banks which are exposed to EM, like in Austria.
Corporates. Periphery corporates offer a good premium to those in the rest of Europe.
Larger companies with diversified revenues and stronger fundamentals will benefit as
investors increasingly look to the periphery to capture this yield. We would avoid tight
names in core Europe, as well as names in the technology and consumer cyclical
sectors, including autos and retail. We prefer corporates which still need to deleverage,
rather than core IG firms which have an incentive to re-leverage over the next year.
Capital structure. Banks capital structures will change over 2014. Banks will continue
to issue more equity and coco debt, particularly given regulators increasing focus on
the leverage ratio. We think the sweet spot will be LT2 debt. We are very selective on
coco and hybrid bonds.
Regions. We prefer European periphery and semi-core; we avoid fake havens like
Germany, Scandinavia, UK, US, Austria and Australia and are also underweight
Emerging Markets. Euro credit will outperform US, and we forecast 5.9% and 8.5%
total returns from European investment grade and high yield, respectively in 2014. We
recommend switching to Yankee and Sterling credit from European issuers for higher
yields and spreads after hedging rates and FX risks.
Duration. We prefer exposure to idiosyncratic and default risk vs systemic risk and
volatility. Therefore, we recommend low/mid-range duration exposure to limit mark-to-
market volatility, taking advantage of the positive impact of ECB liquidity and
refinancing/tender activity, which is concentrated around the 3-7 year segment. This
also allows investors to protect themselves from the risk of rising rates, which we see
coming up in the US and the UK.
CDS-Bond basis. The positive basis collapsed to neutral across corporates during the
latest rally in CDS, while it remains positive in financials. We think the CDS premium
over cash could decline on positive policy risk.
Primary issuance. Issuance will remain strong on a gross basis, but flat or negative on
a net basis on bank deleveraging.
Secondary volumes. Banks are de-risking trading and capital markets businesses as
well as deleveraging loan portfolios. This means lower secondary volumes.

Page 18

Our trades in bullets
1) Short Australia vs Europe. Australias economy is too dependent on mining,
construction and exports to a slowing China for growth, while the domestic real estate
market also appears highly overvalued. Australian bank spreads do not price in these
risks, in our view, and will widen as EM turmoil continues.
Buy protection on iTraxx Australia vs sell protection on iTraxx Europe.
2) Long Dollar bonds from European companies. These bonds offer around 40bp
higher spread and 1% higher yield vs similar Euro bonds issued by the same firms.
Hedge FX and rate risks.
The Revolver | Melt-up: Going
all-in into year-end, 11 October
2013
Buy: Santander, Veolia, Soc Gen, BNP, ING, Rabobank, Telecom Italia, Nationwide,
Vodafone, Daimler, Deutsche Telecom, France Telecom, Intesa, Telefonica, AB Inbev
3) Long LT2 sub debt of British, French, Dutch, Belgian and Spanish banks. The
ECBs measures to strengthen the banking system and the banks issuance of new
CET1 and AT1 capital will help LT2 bonds compress further into senior.
The Revolver | 2014 Outlook:
Europes recovery, 20 November
2013

The Revolver | 2014 Top
Trades: From melt-up to diet
credit, 13 J anuary 2014
Buy: Soc Gen, Credit Agricole, ING, ABN, KBC, Lloyds, Nationwide, BBVA, Caixabank,
Popular and Sabadell.
4) Long mid-cap high yield periphery companies. Smaller HY periphery firms yield
around 1% more than larger peers, with comparable fundamentals. Liquidity is also
improving and more firms are coming to market as banks deleverage.
Buy: Campofrio, Ei Towers, Portucel, Ence, Buzzi, Gestamp, FAGE, Cerved, Cirsa,
IVS, Frigoglass, Bormioli, Guala Closures, Bezinc, Lecta, Zobele, Sisal and Yioula.
5) Long single-A CLO senior tranches. European firms need to borrow but banks are
still pulling back. This creates an opportunity for non-bank lending sources. CLOs are
the easiest way for institutional investors to gain exposure to these loans and can
provide the leverage needed to make the yields on lending attractive.
6) Sell EM-exposed corporates, buy European and US-focused firms. Sell
corporates with revenues from emerging markets or EM-dependent products. Buy firms
which will benefit from the US and European recovery.
Sell: Casino (COFP 3.994% 2020); Buy: Morrisons (MRWLN 2.25% 2020)
Sell: Holcim (HOLNVX 2.625% 2020); Buy: CRH (CRHID 2.75% 2020)
Sell: Telenor (TELNO 1.75% 2018); Buy: Everything Everywhere (EVEVRV 3.25% 18)
7) Sell EM-exposed banks, buy domestic banks. Sell banks which have sizeable
operations in emerging markets and are vulnerable to a slowdown in EM growth. Buy
domestic-focused banks which are exposed to the ongoing European recovery.
The Revolver | Credit crunch,
Phase III: A postcard from EM,
5 February 2014
Sell: BBVA (BBVASM 3.75% 2018); Buy: Caixabank (CAIXABF 3.125% 2018)
Sell: Santander (SANTAN 4% 2017); Buy: Banco Popular (POPSM 2.5% 2017)
Sell: UniCredit (UCGIM 4.875% 2017); Buy: UBI (UBIIM 2.5% 2017)
Sell: HSBC (HSBC 3.125% 2017); Buy: Nationwide (NWIDE 3.125% 2017)
Sell: NAB (NAB 3.75% 2017); Buy: Lloyds (LLOYDS 1.75% 2018)
Sell: ANZ (ANZ 3.75% 2017); Buy: Lloyds (LLOYDS 1.75% 2018)
Sell: CBA (CBA 4.25% 2018); Buy: Lloyds (LLOYDS 1.75% 2018)
Sell: Westpac (WSTP 4.125% 2018); Buy: Lloyds (LLOYDS 1.75% 2018)
Sell: NAB (NAB 3.625% 2017); Buy: Lloyds (LLOYDS 6.75% 2018)

Page 19

8) Sell EM-exposed Austrian Banks, buy domestic core banks. Switch out of EM-
exposed banks into domestic banks.
Austrian banks: A dangerous
waltz with emerging markets,
21 February 2014

Sell: Erste Bank (ERSTBK 1.875 05/13/19); Buy: BNP Paribas (BNP 2 01/28/19)
Sell: RBI (RBIAV 1.875 11/08/18); Buy: ING (INTNED 1.875 02/27/18)
Sell: UniCredit (UCGIM 3.625 01/24/19); Buy: Intesa (ISPIM 3 01/28/19)

9) Sell Core IG firms with the strongest incentive to re-leverage. Sell the firms
which have the greatest incentive to re-leverage, based on five factors: 3y EBITDA
growth, 5y EBITDA volatility, number of ratings notches above high yield, funding costs
and our estimate of their optimal amount of debt.
Europes corporates: Walking
again, but not ready to run
26 March 2014
Sell Statoil (STLNO 2% 2020); Sell Royal Dutch Shell (RDSALN 4.375% 2018)
Sell Telenor (TELNO 4.125% 2020); Sell Sanofi (SANFP 4.125% 2019)
Sell Total (TOTAL 2.125% 2021); Sell Unilever (UNANA 1.75% 2020)
Sell Nestle (NESNVX 1.5% 2019); Sell TeliaSonera (TLSNSS 4.25% 2020)
Sell GDF Suez (GSZFP 6.875% 2019); Sell EDF (EDF 5.375% 2020)
Sell ENI (ENIIM 4.125% 2019); Sell Bayer (BAYNGR 1.125% 2018)
Sell Publicis (PUBFP 4.25% 2015); Sell Danone (BNFP 2.25% 2021)
Sell Compass (CPGLN 3.125% 2019); Sell Rolls-Royce (ROLLS 6.75% 2021)
Sell Linde (LINGR 1.75% 2019); Sell Fortum (FUMVFH 6% 2019)
Sell Svenska Cellulosa (SCABSS 2.5% 2023); Sell Siemens (SIEGR 1.5% 2020)
Sell Ericsson (LMETEL 5.375% 2017); Sell BASF (BASGR 1.5% 2018)
Sell DSM (DSM 1.75% 2019); Sell Solvay (SOLBBB 4.625% 2018)
Sell Atlantia (ATLIM 4.5% 2019);
10) Long Piraeus Bank senior. Greece is recovering and making progress on
structural and budgetary reforms. Piraeus Bank has raised capital and is now resilient
to further rises in bad loans or widening sovereign spreads.
Eureka! Buy the Greecovery and
Greek banks
08 April 2014
Buy TPEIR 5% 2017
11) Short CDX EM vs long iTraxx Xover, to position for the market impact of higher
rates.
The Exit Shock
13 J une 2014
12) Short Marks & Spencer, Tesco and Morrisons against BT, BAT and Imperial
Tobacco, to position for the economic impact of higher rates.
Sell: MKS 6.125% 2021, TSCOLN 6.125% 2022, MRWLN 4.625% 2023.
Buy: BRITEL 5.75% 2028, BATSLN 7.25% 2024, IMTLN 8.125% 2024.

Page 20

Page 21
Trade performance: Open trades
Open trade recommendations
Trade
Start
date End date
Time
horizon
Target Gain
/ Stop Loss
Total
return Revol ver publication
European bank senior 6-J ul-12 Open +1,193bp
H2 2012 Financials
Outlook: Banking on
Europe
European bank sub 6-J ul-12 Open +480bp
H2 2012 Financials
Outlook: Banking on
Europe
Short Australia vs Europe 27-J un-13 Open 6 months +2/-1 +23bp
When the Fed and China
sneeze again
Buy Yankees 11-Oct-13 Open 6 months +6/-6 +349bp
Melt-up: Going all-in into
year-end
Buy sub debt of British, French, Dutch, Belgian
and Spanish banks
20-Nov-13 Open 12 months +6/-6 +538bp
2014 Outlook: Europe's
recovery
Buy bonds of mid-cap periphery companies 20-Nov-13 Open 12 months +6/-6 +767bp
recovery
Buy single-A CLO senior tranches 20-Nov-13 Open 12 months +6/-6 -
recovery
Sell EM-exposed corporates, buy European and
US focused firms
5-Feb-13 Open 12 months +2/-2 -28bp
Credit Crunch, Phase III: A
postcard from EM
Sell EM-exposed banks, buy domestic banks 5-Feb-13 Open 12 months +2/-2 +73bp
Credit Crunch, Phase III: A
postcard from EM
Short Austrian Banks (EM exposed) vs Long
Domestic banks
21-Feb-14 Open 12 months +1.5/-1.5 +46bp
Austrian banks: A
dangerous waltz with
emerging markets
emerging markets
Sell Core IG releveragers 26-Mar-14 Open 6 months +2/-2 +67bp
Europes corporates:
Walking again, but not
ready to run
Long Piraeus Bank Senior 08-Apr-14 Open 6 months +2.5/-2.5 +107bp
Eureka! Buy the
Greecovery and Greek
banks
Short CDX EM vs long iTraxx Xover 13-J un-14 Open 6 months +2/-2 -113bp The Exit Shock
Short UK retail, long non-retail 13-J un-14 Open 6 months +1.5/-1.5 +52bp The Exit Shock
Source: RBS, Bloomberg. Priced as of 21 J uly 2014
Note: Mid-level spreads are used in performance calculations, and are not reflective of bid-asks for entering/exiting trades

Page 22
Trade performance: Closed trades
Closed trade recommendations (2012-present)
Trade Start date End date
Time
horizon
Target Gain /
Stop Loss
Total
return Revolver publication
Buy a basket of lower tier 2 callable bonds with low market
implied call probabilities (Credit Agricole, Intesa, and Lloyds).
23-J an-12 10-Feb-12 3m +7.5/-7.5 +721bp
Buy senior bank bonds and dirt-cheap
sub bonds
Buy protection on Portuguese bank 5-year CDS. Sell
protection Portuguese corporate 5-year CDS. (1x:1.1x ratio).
6-Feb-12 22-Feb-12 6m +6/-6 +615bp The LTRO and the Portuguese Threat
Sell protection on an equally weighted basket of US bank 5-
year senior CDS. Buy protection on an equally weighted
basket of 5-year senior CDS.
14-Feb-12 30-Mar-12 6m +3/-3 +321bp European banks: too good to be true
Buy 5-year senior CDS protection on Intesa, Societe Generale,
and UniCredit. Buy a basket of cash covered bonds on the
same names.
17-Feb-12 5-Apr-12 6m +4/-4 +299bp
Liquidity today brings subordination
tomorrow
Buy low-price, low-coupon bonds from cash rich firms. 5-Mar-12 12-Oct-12 3m +3/-3 +294bp
The refinancing race is on: Buy bond
tender candidates.
Buy protection on an equal weighted basket of Air
France/KLM, Carrefour, Deutsche Post, IAG and Ineos. Sell
protection on iTraxx Xover
12-Mar-12 2-J ul-12 6m +2.5/-2.5 +40bp After PSI: The threat of rising oil prices
Buying protection on BBVA, Caixabank and Santander vs
selling protection on US and UK banks
19-Mar-12 29-Mar-12 3m +2/-1 +208bp
Spain: Structural challenges deeper
than liquidity can solve
Buy Bank of Ireland senior unsecured 4.625% 2013 bonds 4-Apr-12 30-Oct-12 12m +5/-5 +715bp
Ireland: The Celtic Tiger is coming back
on track
Buy protection on BBVA 5-year senior CDS and sell protection
on Santander
20-Apr-12 22-May-12 6m +2.5/-2.5 +147bp
Stress testing Spains champions: Sell
BBVA vs Santander
Sell protection on Societe Generale 5-year senior CDS 30-Apr-12 21-Aug-12 6m +3/-5 +325bp
France: Election fears overdone, long
Societe Generale
Sell protection on iTraxx Xover. (Removed short leg of buying
protection on iTraxx Sub Financials on 2-J ul-12.)
17-May-12 06-Aug-12 4m +3/-2.5 +323bp
Greece: The fallout through the
banking system
Short Australian banks against US corporates 24-May-12 31-J ul-12 6m +1.5/-2 -229bp
The global repercussions of the
Eurozone crisis
Sell protection on buy protection on Spain (1x:1x ratio) 1-J un-12 29-J un-12 6m +3.5/-3.5 +336bp Spains near death experience
Buy short-dated bonds of downgrade-resilient periphery
corporates. Sell downgrade-exposed periphery corporates
13-J ul-12 21-Aug-13 6m +2/-2 +20bp Investing on the edges of the market
Sell 5-year senior CDS protection on UniCredit and buy 5-year
CDS protection on BBVA
20-J ul-12 6-Aug-12 6m +3/-3 +205bp Spain needs surgery, Italy therapy
Long European HY Corporates vs Xover 6-Aug-12 30-Oct-12 6m +1.5/-1.5 +50bp High yield: Still a buy, but be selective
Sell 5-year CDS protection on Fiat and buy protection on
Peugeot and Renault
28-Aug-12 11-Sep-12 6m +1.5/-1.5 +322bp
The Silk Highway: Long Fiat vs
Peugeot & Renault
Short Spain vs Long Xover 3-Sep-12 30-Apr-13 6m +2/-5 +61bp
Same problems, new mistakes: Sell
Spain
Short Investment banks vs Long Commercial banks 3-Oct-12 24-J un-13 6m +2/-2 +14bp
Bank to basics: The future of
investment banking
Buy short-dated Spanish sovereign bonds; sell short-dated
BBVA senior bonds
12-Oct-12 14-J an-14 6m +1.5/-1.5 -81bp Tail risk is dead. Long live tail risk
Buy BESPL 5.625% 2014 and sell PGB 3.6% 2014 17-Oct-12 08-Nov-12 6m +3/-3 +291bp
Portugal: Long Banco Espirito Santo vs
sovereign
Buy BASQUE 4.15% 2019, NAVARR 5.529% 2016, CANARY
2% 2016, CASTIL 3.85% 2016 and MADRID 6.213% 2016
29-Oct-12 7-Feb-13 6m +16/-7 +1394bp
The Spanish regions: Mirage and oasis
in a yield desert
Short LT2 bonds ISPIM 5% 2019, UCGIM 5.75% 2017, BPIM
6% 2020 and MONTE 5% 2020 vs Long iTraxx SubFin
10-Dec-12 28-Feb-13 3m +5/-3 +115bp Italy: Brace for political risk
Long Periphery Corporates (Cash bonds) 8-J an-13 01-Oct-13 12m +6/-4 +325bp
Top Trades 2013: Making money in a
yield desert
Long Periphery Banks 8-J an-13 19-Nov-13 12m +6/-4 +487bp
yield desert
Long European vs US high yield 8-J an-13 12-Dec-13 6m +2/-2 +5bp
yield desert
Sell UK consumer bonds vs iBoxx 7-10 year BBB 29-J an-13 16-Apr-13 7m +3.5/-3.5 +200bp
The UK: slowly losing safe-haven
status
Long Corporate Hybrid Bonds 19-Feb-13 14-Apr-14 6 m +10/-6 +992bp
Corporate hybrids: another oasis in the
yield desert
Short Italian bank sub vs Xover 14-Mar-13 28-Mar-13 6m +2/-2 +472bp The State of Credit Markets
Buy BESPL 2015 5.875% and CXGD 2015 5.625% 19-Apr-13 01-Oct13 6m +3/-4.5 +104bp Buy Portugal
Buy Mid Cap Periphery HY 23-May-13 19-Nov-13 6m +6/-6 +438bp High yield: Small is beautiful
Sell Monte 5% 2020 LT2 10-J ul-13 04-Oct-13 12m +10/-10 +551bp EC bail-in rules: Its time for a haircut
Buy top 30 deleveraging, sell top 30 releveraging credits 24-Sep-13 26-Mar-14 6m +4/-4 +350bp The leverage temptation resurfaces
Buy Protection on iTraxx Xover 01-Oct-13 11-Oct-13 1m +1.5/-1.5 -117bp
Banking union: The moment of truth for
Europe's banks
Long sub debt of French, Dutch and British banks 11-Oct-13 19-Nov-13 6m +4/-4 +245bp Melt-up: Going all-in into year-end
Buy periphery senior bank debt 20-Nov-13 21-May-14 12m +6/-6 +650bp 2014 Outlook: Europe's recovery
Source: RBS, Bloomberg. Note: Mid-level spreads are used in performance calculations, and are not reflective of bid-asks for entering/exiting trades

Recent research
Coconomics: Pricing contingent capital risks 03 J uly 2014. After supporting them
to solve European banks capital gaps, policymakers have grown wary on contingent
capital instruments: investors are underestimating the probability that AT1 instruments
will be required to absorb losses, says the Bank of England in its latest Financial
Stability Report, published last week. We have shown already that the coco market is
dislocated, i.e. that market prices are not always reflecting the bonds features. In this
Revolver, we create and explain a model to simulate banks earnings, and calculate
conversion and cancellation risk.
The Exit Shock 13 J une 2014. Bond investors, prepare for Carneyage! Yesterday's
change in forward guidance by the Bank of England is a shot across the bow, but
investors have not reacted. The Fed could follow suit over the coming months, as the
benefits of stimulus become less evident vs its collateral effects asset overvaluation,
releveraging in credit markets and rising income inequality. The taper tantrum sent a
shockwave through EM, HY and other high-beta products last year. It can happen
again. Europe is less exposed thanks to the ECB's aggressive stance, but not
insulated: credit investors should prepare for the end of low-for-long, and its impact on
spreads.
TLTROnomics: Assessing the impact of the ECB package 06 J une 2014. The
ECB has beaten expectations, delivering as much as they could on:
1. Liquidity: rate cuts, end of SMP sterilisations, extension of the full allotment repo
2. Liquidity-for-lending: a series of targeted LTROs (TLTRO) of around 400bn
3. Asset purchases: discussion of a preparation for Asset Backed Securities purchases
But whether the TLTRO will work in the real economy will depend on its economics and
the take-up from banks. Will banks be able to use ECB liquidity to lend to SMEs? How
much benefit will SME get from lower rates? We think the TLTRO will create some
advantage, but its economics remain fragile for periphery banks. The good news is the
ECB is still working on its bazooka Credit Easing (CE) of asset-backed securities.
H2 Outlook: Oceans 14 the easy money has been made 22 May 2014. There is
more risk and less upside in Europe, but its too early to sell. The next 3-4 months will
be volatile. Eurosceptics are gaining ground at elections. Investors are fully pricing a
large ECB intervention in J une, but the bazooka may not be ready until post-AQR. After
the end of tapering, the US and UK central banks will have to discuss how and when to
exit stimulus. Finally, European bonds are no longer cheap vs fundamentals. That said,
these fundamentals are improving, as corporates delever and banks strengthen their
capital, and we think that after this volatility there will be more room for tightening later
in the year. Investors should focus on the niches where theres still some value:
periphery, banks, high yield avoiding the fake havens.
Cocos: Investors call for standardisation, more consistency 12 May 2014. Like
for British marmite, opinions on contingent capital differ wildly some love them for the
yield and the dislocations the market offers, while others dislike them and do not even
consider them as bonds. But does everyone understand these products and their
complexity? And what are the risks the market faces if a trigger event or a coupon
deferral occurs? What should regulators do to make contingent capital more
investable? We asked investors to share their views with a short survey, and over 150
responded coco buyers and not. The results are exciting and worrying at the same
time. We present here a summary of their thinking.
Coco Loco: The systemic risks of contingent capital 14 April 2014. The coco
market will grow to over 100bn this year. Coco bonds meet many needs: on the one
hand, European banks need more capital, with just around 3% over assets vs 5-6% in
the US and Switzerland. On the other, fixed income investors are hungry for yield and
willing to take more risk. But are they pricing these risks correctly? We show that coco

Page 23

prices do not fully reflect the risks of conversion. And while performance is positive for
now, lack of standardisation and complexity means any deferral or trigger will shake up
the investor base going forward. We think investors should be selective.
Eureka! Buy the Greecovery and Greek banks 8 April 2014. We initiate coverage
on Greek banks today, with a long on Piraeus. There are still many obstacles for
Greece. Its economy lost 24% of GDP during the crisis and public debt is 176% of
GDP. One out of two young workers is unemployed. But there are signs of recovery,
finally in financial markets and in the real economy too. Manufacturing, tourism and
even confidence are up. The Eurogroup and Germany are showing support and have
discussed a third aid package. The budget is in surplus, allowing the government to
distribute a potential 450m social dividend. Banks, hurt by bad loans and sovereign
losses, have consolidated and are now raising capital.
Europes corporates: Walking again, but not ready to run 26 March 2014. There
are more signs of growth in Europe and investors are rushing to put capital back to
work in the riskiest parts of the bond market: periphery, hybrid capital, and high yield.
Are they getting paid for the risk? It depends on what CFOs are doing with the funds
they are raising. We show most European corporates are still deleveraging and
optimising costs to improve earnings. They remain very cautious on debt and ratings
and continue to hoard cash, especially in the periphery. So while investors are getting
exuberant, issuers are still behaving rationally. We remain long credit overall, but
selectively underweight bonds of core firms that have strong incentives to add leverage.
Credit spreads: Towards the bottom in 2014 5 March 2014. The Ukraine-Russia
crisis barely moved European spreads. Indeed, European economies now appear
resilient to external shocks, as macro data continues to improve and capital comes
back from riskier countries. But are investors still getting paid for the risks? Long
Europe has become a crowded trade now, yet we still see positive catalysts on the
horizon: ECB policy, corporate and bank fundamentals, sovereign reforms and
technicals all remain credit positive. With few near-term risks, we think credit spreads
will move from pricing based on volatility and tail risks to a new regime compensating
primarily for default risk.
Austrian banks: A dangerous waltz with emerging markets 21 February 2014.
Emerging markets are the third leg of the credit crunch. Many have grown accumulating
private leverage over the past decade, thanks to capital inflows. But these inflows are
now reversing, and some EM central banks are raising rates to stop them. With higher
rates, though, come higher funding costs and rising bad loans. Some European banks
exposed to EM are already getting hurt. Austrias nationalised Hypo Alpe Adria is
nearing resolution, as the government explores potential bail-in options. But the other
Austrian banks, Erste, RBI and Bank Austria (a subsidiary of UniCredit), are also at risk
of losses. We recommend selling Erste, RBI and UniCredit.
Can the demolition man rebuild Italy? 13 February 2014. Matteo Renzi
nicknamed demolition man took his next step towards becoming Prime Minister of
Italy. He officially asked current PM Letta to step down this afternoon, and asserted his
intention to replace him. Letta has scheduled a final cabinet meeting tomorrow at 11:30
CET and is likely to resign afterward. Renzi aims to reform the electoral system and the
Senate, free up labour markets and reduce government spending. Renzis ambition to
reform could be a much-needed shot in the arm for Italy, which has so far lagged
relative to the rest of Europe. He has a better chance of success than Letta did, but
may still face difficulties with a divided parliament. In any case, we think Renzi as PM is
positive for Italy and remain long banks and corporates.

Page 24

Credit Markets Watch
Spreads, sovereign risk, primary and secondary markets
Country average corporate credit spreads, bp iTraxx index spreads, 5-year on-the-run, bp
0
500
1,000
1,500
2,000
2,500
3,000
F
e
b
-
1
0
J
u
n
-
1
0
O
c
t
-
1
0
F
e
b
-
1
1
J
u
n
-
1
1
O
c
t
-
1
1
F
e
b
-
1
2
J
u
n
-
1
2
O
c
t
-
1
2
F
e
b
-
1
3
J
u
n
-
1
3
O
c
t
-
1
3
F
e
b
-
1
4
J
u
n
-
1
4
Greece Italy
Spain Portugal
Ireland France
UK Germany
0
100
200
300
400
500
600
700
J
u
l
-
0
9
N
o
v
-
0
9
M
a
r
-
1
0
J
u
l
-
1
0
N
o
v
-
1
0
M
a
r
-
1
1
J
u
l
-
1
1
N
o
v
-
1
1
M
a
r
-
1
2
J
u
l
-
1
2
N
o
v
-
1
2
M
a
r
-
1
3
J
u
l
-
1
3
N
o
v
-
1
3
M
a
r
-
1
4
iTraxx Europe Index
Senior Financials
Subordinated Financials
SovX WE

Source: RBS Credit Strategy, Bloomberg Source: RBS Credit Strategy, Bloomberg
iTraxx Main cash and CDS spreads and basis, bp iTraxx Xover cash and CDS spreads and basis, bp
-150
-100
-50
0
50
100
150
200
250
300
350
Basis
Average CDS spread
Average cash spread
-200
0
200
400
600
800
1,000
1,200
1,400
F
e
b
-
0
8
A
u
g
-
0
8
F
e
b
-
0
9
A
u
g
-
0
9
F
e
b
-
1
0
A
u
g
-
1
0
F
e
b
-
1
1
A
u
g
-
1
1
F
e
b
-
1
2
A
u
g
-
1
2
F
e
b
-
1
3
A
u
g
-
1
3
F
e
b
-
1
4
Basis
iTraxx Xover
Average cash spread

Investment grade and high yield issuance, bn TRACE 2-month trailing average daily trading volumes, $m
0
20
40
60
80
100
120
140
J
a
n
-
1
3
F
e
b
-
1
3
M
a
r
-
1
3
A
p
r
-
1
3
M
a
y
-
1
3
J
u
n
-
1
3
J
u
l
-
1
3
A
u
g
-
1
3
S
e
p
-
1
3
O
c
t
-
1
3
N
o
v
-
1
3
D
e
c
-
1
3
J
a
n
-
1
4
F
e
b
-
1
4
M
a
r
-
1
4
A
p
r
-
1
4
M
a
y
-
1
4
J
u
n
-
1
4
J
u
l
-
1
4
AA A BBB HY
0
5,000
10,000
15,000
20,000
25,000
30,000
35,000
Apr-06 Apr-07 Apr-08 Apr-09 Apr-10 Apr-11 Apr-12 Apr-13 Apr-14
IG Volume
HY Volume

Page 25

Financial Stress Watch
Bank spreads and risk in the financial system
Average bank spreads by region, bps Libor-OIS spreads, %
0
100
200
300
400
500
J un-07 Apr-08 Feb-09 Dec-09 Oct-10 Aug-11 J un-12 Apr-13 Feb-14
US Banks
Asian Banks
European Banks
0
1
2
3
4
D
e
c
-
0
6
J
u
n
-
0
7
D
e
c
-
0
7
J
u
n
-
0
8
D
e
c
-
0
8
J
u
n
-
0
9
D
e
c
-
0
9
J
u
n
-
1
0
D
e
c
-
1
0
J
u
n
-
1
1
D
e
c
-
1
1
J
u
n
-
1
2
D
e
c
-
1
2
J
u
n
-
1
3
D
e
c
-
1
3
J
u
n
-
1
4
EUR
GBP
USD

Use of the ECB marginal lending facility, bn Cash and C&I loans on banks balance sheets, $bn
0
5
10
15
20
25
30
M
a
r
-
0
7
S
e
p
-
0
7
M
a
r
-
0
8
S
e
p
-
0
8
M
a
r
-
0
9
S
e
p
-
0
9
M
a
r
-
1
0
S
e
p
-
1
0
M
a
r
-
1
1
S
e
p
-
1
1
M
a
r
-
1
2
S
e
p
-
1
2
M
a
r
-
1
3
S
e
p
-
1
3
M
a
r
-
1
4
0
500
1,000
1,500
2,000
2,500
3,000
3,500
D
e
c
-
0
6
J
u
n
-
0
7
D
e
c
-
0
7
J
u
n
-
0
8
D
e
c
-
0
8
J
u
n
-
0
9
D
e
c
-
0
9
J
u
n
-
1
0
D
e
c
-
1
0
J
u
n
-
1
1
D
e
c
-
1
1
J
u
n
-
1
2
D
e
c
-
1
2
J
u
n
-
1
3
D
e
c
-
1
3
J
u
n
-
1
4
0
300
600
900
1,200
1,500
1,800
2,100 Cash
C&I Loans (RHS)

US primary dealer corporate bond inventories, $bn US commercial paper outstanding from foreign issuers, $bn
0
50
100
150
200
250
D
e
c
-
0
6
J
u
n
-
0
7
D
e
c
-
0
7
J
u
n
-
0
8
D
e
c
-
0
8
J
u
n
-
0
9
D
e
c
-
0
9
J
u
n
-
1
0
D
e
c
-
1
0
J
u
n
-
1
1
D
e
c
-
1
1
J
u
n
-
1
2
D
e
c
-
1
2
120
140
160
180
200
220
240
260
280
300
D
e
c
-
0
6
J
u
n
-
0
7
D
e
c
-
0
7
J
u
n
-
0
8
D
e
c
-
0
8
J
u
n
-
0
9
D
e
c
-
0
9
J
u
n
-
1
0
D
e
c
-
1
0
J
u
n
-
1
1
D
e
c
-
1
1
J
u
n
-
1
2
D
e
c
-
1
2
J
u
n
-
1
3
D
e
c
-
1
3
J
u
n
-
1
4

Page 26

Page 27

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