There was an interesting note from Bloomberg showing that the default probability in 1 year credit default swaps on the US government spiked quickly to surpass the credit spread in 5 year credit default swaps for the first time:
This is interesting, but a few points to note. I am seeing 5 year CDS at a 52 week high of 62.47 bps. I am seeing 1 year CDS at a high of 80 bps. If we assume simple assumptions of 40% recovery on both, this is implying a 1.35% chance of default in the 1 year spread and a 5.14% chance of default in the 5 year spread. Neither of these spreads are scary, and if you assume that there is a 1% chance of default in any given year then the two are not incongruous.
In addition, we have seen little move in short term treasury yields. In fact, 1 month treasury yields have moved from lows of -.015% on July 13, 2011 to +.077% or less than 8 bps today. Not much fear in the 1 month numbers. 2 year treasury rates? They have increased from 35 bps to 43 bps.
The current point is that there has been little fear in the markets so far. This might be a media panic event, but as of today the markets view it as a non-event. Hopefully the markets do not discount the stupidity of politicians too far.
