European credit derivative indexes traded in a narrow range on Monday, as investors focused on monoline insurers and this week's US interest rate meeting. Norske Skog was one of the most active names. The cost of insuring its debt against default fell sharply after the paper maker said the sale of its South Korean unit would help cut its net debt by about a quarter and safeguard its lending agreements.
Five-year credit default swaps on Norske Skog were 80 basis points tighter at 930 basis points in late afternoon trade, having tightened by 100 basis points earlier. In the broader credit market, the Markit investment-grade iTraxx Europe index was steady at 93 basis points at 1521 GMT, according to Markit data. The iTraxx Crossover index, made up of 50 mostly "junk"-rated credits, was at 501 basis points, two basis point wider since late on Friday.
Both indexes had earlier edged tighter. Equity markets were similarly tame, with the major European and US share indexes little changed. The trader said that trading was likely to be quiet ahead of the US Federal Reserve's interest rate decision, which is due on Wednesday. Most analysts expect the Fed will keep rates on hold at 2.0 percent despite hawkish talk of inflation risks.
Monolines continued to be in focus. Some strategists argue that credit markets are underestimating the risks stemming from rating agency downgrades of monoline insurers. The fallout is likely to come from follow-on downgrades to structured credit products, such as collateralised debt obligations (CDOs).
Arun Singhal, a credit strategist at Lehman Brothers, said in a note to clients on Monday that "there is a material chance" spreads will widen beyond levels hit in March.
The iTraxx Main touched fresh record wides above 166 basis points in mid-March after the fire-sale of investment bank Bear Stearns to J.P. Morgan, while the Crossover index widened to above 630 basis points. Moody's Investors Service announced multi-notch cuts to the ratings of MBIA and Ambac last Thursday. The move followed less aggressive downgrades by Standard & Poor's earlier this month.
Smaller bond insurers such as FGIC have already been cut to "junk" territory". "The muted reaction to multiple notch monoline downgrades tells me that this is probably the most underappreciated risk," said Singhal.
The corporate primary market took a breather on Monday, although Belgium set guidance on a five-year dollar benchmark bond at mid-swaps minus around 23 basis points. The deal is being managed by Barclays, Deutsche Bank, J.P. Morgan and Morgan Stanley.
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