Idea Generation—Looking at CDS Spread Changes

radio-shackOne of the key identifiers that we look to when attempting to find short ideas is the CDS (or Credit Default Swap) spread for a particular company.

A Credit Default Swap (or CDS) is an arrangement between a buyer (often called protection buyer) and seller (or protection seller) in which the buyer receives credit protection, whereas the seller of the CDS guarantees the credit worthiness of the debt security.

A CDS can often be thought of as a level of insurance since the buyer pays the seller a premium while the seller of the CDS has the obligation to cover the face value of the CDS if the company in question does indeed default.

The spread of a Credit Default Swap is the annual amount the buyer must pay the seller over the length of the contract for the swap. This amount is expressed as a percentage of the notional principal (or face value) of the contract.

For example, if we find that the CDS spread for Arco Widgets is 100 basis points, or 1%, then a buyer who is purchasing $10 million worth of protection from GGG CDS Dealer must pay an amount totalling $100,000. Payments are typically made on a quarterly basis. and will continue until either Arco Widgets defaults or when the contract actually expires.

The higher the spread on the CDS, the higher the expectations are for a company default. Credit Default Swaps became somewhat more mainstream and familiar to the investing public during the financial crisis of 2007-2008. When the ship was getting ready to sink at Lehmann Brothers and Bear Stearns, CDS spreads went wild.

Often the companies with the highest CDS spreads typically have poor balance sheets with signficant debt loads/poor liquidity. It is important to get a gauge of the CDS market, since the credit players often have great insight into the problems faced by companies. Here is a list of companies sorted by largest increase in 5 Year CDS Spread for the past month:

Ticker
Name
5 Year CDS Spread
5 Year CDS Monthly % Change
AXSAXIS CAPITAL276.2657.34
USM US CELLULAR CORP122.0045.95
TAP MOLSON COORS-B109.8443.53
KBH KB HOME834.8739.61
SWY SAFEWAY INC185.4334.86
HPQ HEWLETT-PACKARD143.1533.33
AVP AVON PRODUCTS271.7132.33
ACE ACE LTD73.7429.04
MMC MARSH & MCLENNAN57.6327.22
RSH RADIOSHACK CORP1,311.6925.92
CB CHUBB CORP64.6725.56
JCP J.C. PENNEY CO405.0024.91
BZH BEAZER HOMES USA1,135.8623.73
GEN GENON ENERGY INC1,235.1023.25
DIS WALT DISNEY CO30.1523.06
L LOEWS CORP67.1723.03
BWP BOARDWALK PIPELI67.1723.03
STZ CONSTELLATION-A270.0022.35
SRE SEMPRA ENERGY64.2322.34
BBY BEST BUY CO INC540.0021.67
ALL ALLSTATE CORP85.2621.23
C CITIGROUP INC262.0721.07
GMT GATX CORP200.8920.61
TRV TRAVELERS COS IN83.9620.2
SEE SEALED AIR CORP325.4219.75
AMT AMERICAN TOWER C284.1819.59
SFD SMITHFIELD FOODS399.1119.14
THC TENET HEALTHCARE666.5018.61
CYH COMMUNITY HEALTH687.2118.53
GNW GENWORTH FINANCI499.3318.48
SPF STANDARD PACIFIC530.0018.36
PRU PRUDENTL FINL190.3318.21
NEM NEWMONT MINING135.5217.84
MET METLIFE INC252.9517.65
CSX CSX CORP55.4317.36
RAD RITE AID CORP734.2217.35
PXD PIONEER NATURAL153.9517.22
PSE PIONEER SOUTHWES153.9517.22
RYL RYLAND GROUP INC375.0017.19
DE DEERE & CO45.5617.06
FCX FREEPORT-MCMORAN190.6516.96
KFT KRAFT FOODS INC55.4616.76
MBI MBIA INC1,011.1916.62
MS MORGAN STANLEY380.8416.34
DHI DR HORTON INC210.0016.26
CAT CATERPILLAR INC90.6216.18
AZO AUTOZONE INC47.6016.13
WHR WHIRLPOOL CORP206.3415.92
LNC LINCOLN NATL CRP264.1715.19
CAG CONAGRA FOODS64.9815.01
IP INTL PAPER CO132.3014.84
F FORD MOTOR CO295.4014.72
APA APACHE CORP83.5014.62
AON AON PLC72.6314.29
GM GENERAL MOTORS C345.0013.87
AVB AVALONBAY COMMUN79.0013.67
INTU INTUIT INC55.7313.36
GS GOLDMAN SACHS GP279.6013.35
CHK CHESAPEAKE ENERG525.7813.12
BSX BOSTON SCIENTIFC112.1212.86
FTR FRONTIER COMMUNI702.1412.83
MCK MCKESSON CORP35.5012.7
AMKR AMKOR TECH INC539.0412.53
SLM SLM CORP461.7112.52
FE FIRSTENERGY CORP149.2612.52
AEP AMERICAN ELECTRI66.7212.46
WFT WEATHERFORD INTL227.3012.27
CVC CABLEVISION SY-A584.0812.15
JWN NORDSTROM INC83.7412
TXT TEXTRON INC165.1811.99
DELL DELL INC131.5011.91
RRD RR DONNELLEY & S781.1911.79
RDN RADIAN GROUP INC1,845.3211.72
LIZ LIZ CLAIBORNE402.5811.69
DOW DOW CHEMICAL CO145.9211.67
BHI BAKER HUGHES INC86.6211.6
D DOMINION RES/VA55.1511.41
NYT NEW YORK TIMES-A311.8311.37
CTB COOPER TIRE & RU508.3211.31
JNJ JOHNSON&JOHNSON42.5011.29
UNM UNUM GROUP234.3911.14
GR GOODRICH CORP15.0011.11
CVS CVS CAREMARK COR48.4011.06
AES AES CORP344.4310.99
DF DEAN FOODS CO580.0010.9
ETP ENERGY TRANSF PA237.5010.84
S SPRINT NEXTEL CO843.0510.78
CAH CARDINAL HEALTH41.6510.77
TWX TIME WARNER INC71.0810.75
SHW SHERWIN-WILLIAMS68.1110.75
POL POLYONE CORP445.2610.72
AIG AMERICAN INTERNA240.0010.71
WIN WINDSTREAM CORP431.6110.67
GT GOODYEAR TIRE780.2510.65
KSS KOHLS CORP154.7110.64
IPG INTERPUBLIC GRP205.4910.59
MNI MCCLATCHY CO-A1,487.0110.54
LXK LEXMARK INTL-A228.8610.32
PGN PROGRESS ENERGY27.2510.17
SUN SUNOCO INC212.4010.14
NWL NEWELL RUBBERMAI96.6810.04
HIG HARTFORD FINL SV252.959.98
SLE SARA LEE CORP96.329.84
TOL TOLL BROTHERS170.839.65
UIS UNISYS CORP546.039.48
TWC TIME WARNER CABL142.639.43
MAR MARRIOTT INTL-A92.859.42
CVH COVENTRY HEALTH172.109.25
HNT HEALTH NET INC355.289.12
EMN EASTMAN CHEMICAL90.509.12
RIG TRANSOCEAN LTD186.679.07
CL COLGATE-PALMOLIV44.339.04
PHM PULTEGROUP INC385.009
PBI PITNEY BOWES INC360.018.99
SKS SAKS INC396.628.92
KMB KIMBERLY-CLARK54.278.54
HD HOME DEPOT INC45.008.43
JPM JPMORGAN CHASE110.618.34
NRG NRG ENERGY780.028.32
MWV MEADWESTVACO COR122.048.2
AET AETNA INC56.468.18
BTU PEABODY ENERGY372.438.13
USB US BANCORP80.608.04
XRX XEROX CORP224.947.96
PKD PARKER DRILLING436.167.9
VIAB VIACOM INC-B84.987.75
LVLT LEVEL 3 COMM INC729.947.74
AMD ADV MICRO DEVICE425.007.59
VLO VALERO ENERGY152.207.56
APC ANADARKO PETROLE165.007.44
KIM KIMCO REALTY149.297.4
LUV SOUTHWEST AIR167.037.4
NVR NVR INC183.107.35
CSC COMPUTER SCIENCE306.347.32
BAC BANK OF AMERICA280.727.21
WY WEYERHAEUSER CO144.677.16
WFC WELLS FARGO & CO95.657.16
HRB H&R BLOCK INC412.507.14
EEP ENBRIDGE ENERGY150.007.14
AVT AVNET INC174.657.14
MIC MACQUARIE INFRAS520.327.08
VMC VULCAN MATERIALS295.007.07
HES HESS CORP136.116.96
R RYDER SYSTEM INC144.326.9
TSN TYSON FOODS-A140.006.89
NE NOBLE CORP110.086.87
HMA HEALTH MGMT AS-A537.006.79
ABC AMERISOURCEBERGE74.806.42
EQY EQUITY ONE INC230.926.4
SCG SCANA CORP125.006.33
KR KROGER CO76.506.25
TXN TEXAS INSTRUMENT32.856.24
NU NORTHEAST UTILS55.996.19
NSC NORFOLK SOUTHERN39.496.07
LTD LIMITED BRANDS190.846.02
OKS ONEOK PARTNERS L152.295.94
CTL CENTURYLINK INC238.245.8
CAR AVIS BUDGET GROU719.115.62
LPX LOUISIANA-PACIFI284.825.55
CLX CLOROX CO67.505.5
FST FOREST OIL CORP639.405.36
XL XL GROUP PLC115.755.23
SFUN SOUFUN HOLDI-ADR124.145.23
M MACY'S INC110.815.2
MHP MCGRAW-HILL COS201.995.04
BWA BORGWARNER INC110.214.96
DVN DEVON ENERGY CO63.504.96
YUM YUM! BRANDS INC67.184.91
OKE ONEOK INC117.504.9
SFI ISTAR FINANCIAL841.614.77
SPLS STAPLES INC193.794.75
WPZ WILLIAMS PARTNER155.184.72
MDC MDC HOLDINGS INC257.504.61
HSY HERSHEY CO/THE48.574.56
VTR VENTAS INC209.634.55
OCR OMNICARE INC295.004.48
MMP MAGELLAN MIDSTRE154.184.38
PKG PACKAGING CORP110.004.27
COF CAPITAL ONE FINA123.884.19
CMS CMS ENERGY CORP180.604.16
OLN OLIN CORP155.263.97
CYT CYTEC INDS134.453.92
DDR DDR CORP242.033.88
PG PROCTER & GAMBLE51.563.87
HAS HASBRO INC154.953.69
KO COCA-COLA CO/THE52.503.65
SCI SERVICE CORP INT176.563.65
TSO TESORO CORP318.113.62
TLLP TESORO LOGISTICS318.113.62
ARW ARROW ELECTRONIC122.653.5
FDX FEDEX CORP102.453.48
CATC CAMBRIDGE BNCRP65.533.47
UNP UNION PAC CORP38.503.41
WMB WILLIAMS COS INC145.003.4
HON HONEYWELL INTL31.603.37
LOW LOWE'S COS INC61.503.36
BC BRUNSWICK CORP268.393.34
EMR EMERSON ELEC CO59.363.23
CNW CON-WAY INC267.793.19
BRK/A BERKSHIRE HATH-A148.423.01
BLC BELO CORP-A288.342.98
VFC VF CORP49.922.93
HOT STARWOOD HOTELS120.402.91
HAL HALLIBURTON CO71.402.83
LONG ELONG INC-SP ADR225.242.8
EXPE EXPEDIA INC225.242.8
ETR ENTERGY CORP253.002.8
UHS UNIVERSAL HLTH-B175.522.8
KMP KINDER MORGAN EN180.002.77
HUM HUMANA INC120.692.65
GCI GANNETT CO292.502.63
GIS GENERAL MILLS IN35.962.63
CPB CAMPBELL SOUP CO56.842.41
CMI CUMMINS INC58.222.15
SVU SUPERVALU INC953.331.99
MTH MERITAGE HOMES C391.631.6
DRI DARDEN RESTAURAN103.971.59
AA ALCOA INC300.001.59
RKT ROCK-TENN CO-A138.731.54
RCL ROYAL CARIBBEAN500.291.5
TJX TJX COS INC65.401.4
MOS MOSAIC CO/THE75.001.34
MGM MGM RESORTS INTE701.221.33
MAS MASCO CORP334.301.33
CAM CAMERON INTERNAT140.801.29
JCI JOHNSON CONTROLS140.661.19
DDS DILLARDS INC-A330.851.12
RPM RPM INTL INC126.161.07
DGX QUEST DIAGNOSTIC71.751.06
K KELLOGG CO69.700.91
NUE NUCOR CORP97.880.91
UPS UNITED PARCEL-B48.720.87
ADM ARCHER-DANIELS80.500.63
MTG MGIC INVT CORP1,283.430.44
EPD ENTERPRISE PRODU147.790.44
HCP HCP INC150.610.41
JNY JONES GROUP INC455.000.39
APD AIR PRODS & CHEM64.250.39
OMC OMNICOM GROUP57.240.39
BRE BRE PROPERTIES125.000.39
GOOG GOOGLE INC-CL A30.340.25
SWK STANLEY BLACK &72.920.22
WM WASTE MANAGEMENT109.450.21
HCN HEALTH CARE REIT153.240.16
CVX CHEVRON CORP34.510.01
HR HEALTHCARE RLTY192.500
RSG REPUBLIC SVCS104.000
RE EVEREST RE GROUP95.000
HNZ HJ HEINZ CO52.500
TGT TARGET CORP40.500
MUR MURPHY OIL CORP105.00-0.05
UNH UNITEDHEALTH GRP98.50-0.17
AGN ALLERGAN INC49.93-0.32
MSFT MICROSOFT CORP36.45-0.34
PX PRAXAIR INC55.00-0.36
CNA CNA FINL CORP159.90-0.37
MO ALTRIA GROUP INC82.06-0.43
UVV UNIVERSAL CORP203.53-0.45
MAT MATTEL INC92.03-0.51
PFE PFIZER INC64.53-0.55
AXP AMERICAN EXPRESS82.54-0.77
ESV ENSCO PLC-ADR136.00-0.91
PPG PPG INDS INC64.68-0.93
CMCSA COMCAST CORP-A78.49-0.96
T AT&T INC84.30-0.97
PM PHILIP MORRIS IN73.70-1.07
COV COVIDIEN PLC59.32-1.13
CBS CBS CORP-B88.47-1.15
UTX UNITED TECH CORP73.99-1.16
ETN EATON CORP83.93-1.26
UFS DOMTAR CORP167.31-1.43
CA CA INC124.06-1.62
SYY SYSCO CORP55.00-1.66
OC OWENS CORNING200.89-1.69
BA BOEING CO/THE63.35-1.78
OI OWENS-ILLINOIS360.00-1.94
ITW ILLINOIS TOOL WO59.36-1.95
NKE NIKE INC -CL B48.46-1.96
DD DU PONT (EI)49.12-2.09
ASH ASHLAND INC297.75-2.13
COST COSTCO WHOLESALE43.96-2.14
LEN LENNAR CORP-A300.00-2.19
GLW CORNING INC107.49-2.28
CWH COMMONWEALTH REI246.76-2.33
SIR SELECT INCOME RE246.76-2.33
NAV NAVISTAR INTL506.30-2.34
ORCL ORACLE CORP48.31-2.4
OXY OCCIDENTAL PETE50.50-2.42
X US STEEL CORP668.83-2.46
NBL NOBLE ENERGY INC117.03-2.48
MCD MCDONALDS CORP19.99-2.49
IGT INTL GAME TECH134.05-2.51
SLB SCHLUMBERGER LTD61.68-2.54
MON MONSANTO CO67.00-2.57
GD GENERAL DYNAMICS47.89-2.76
BDN BRANDYWINE RLTY207.50-2.82
BAX BAXTER INTL INC25.97-3.13
BEAM BEAM INC52.79-3.14
TEL TE CONNECTIVITY97.75-3.22
UDR UDR INC145.00-3.33
PCG PG&E CORP126.81-3.45
MRO MARATHON OIL109.82-3.48
HPT HOSPITALITY PROP220.00-3.54
AMGN AMGEN INC62.63-3.57
MSI MOTOROLA SOLUTIO84.52-3.69
JBLU JETBLUE AIRWAYS819.73-3.74
INTC INTEL CORP38.12-3.81
COP CONOCOPHILLIPS57.86-3.97
MTOR MERITOR INC827.06-4.04
DOV DOVER CORP64.57-4.33
LLY ELI LILLY & CO58.89-4.62
LH LABORATORY CP97.99-4.87
DTE DTE ENERGY CO121.28-4.88
ODP OFFICE DEPOT INC616.14-5.02
DRE DUKE REALTY CORP166.67-5.03
EP EL PASO CORP200.62-5.09
MLM MARTIN MAR MTLS185.00-5.13
MHK MOHAWK INDS174.92-5.49
BMY BRISTOL-MYER SQB25.98-5.49
RAI REYNOLDS AMERICA140.80-5.5
ED CONS EDISON INC50.79-5.52
VZ VERIZON COMMUNIC64.12-5.68
NI NISOURCE INC114.48-5.87
TE TECO ENERGY INC87.05-5.89
DHR DANAHER CORP66.74-5.89
PLD PROLOGIS INC210.82-6.26
MRK MERCK & CO15.50-6.54
IBM IBM27.50-6.78
PEP PEPSICO INC57.83-7.01
HSP HOSPIRA INC148.77-7.02
USG USG CORP603.95-7.04
SO SOUTHERN CO83.12-7.13
DO DIAMOND OFFSHORE69.80-7.17
LMT LOCKHEED MARTIN69.01-7.37
TYC TYCO INTL LTD73.17-7.38
GPS GAP INC/THE208.12-7.73
WRI WEINGARTEN RLTY137.50-7.79
CPT CAMDEN PROP TR127.50-7.82
DAL DELTA AIR LI858.92-8.01
SLG SL GREEN REALTY242.57-8.44
IR INGERSOLL-RAND81.76-8.72
EOG EOG RESOURCES102.28-8.96
CNP CENTERPOINT ENER121.60-9.12
CSCO CISCO SYSTEMS71.14-9.23
CI CIGNA CORP76.18-9.3
RTN RAYTHEON CO40.35-9.33
XEL XCEL ENERGY INC56.46-9.37
EXC EXELON CORP123.20-9.41
XOM EXXON MOBIL CORP27.50-9.44
POM PEPCO HOLDINGS113.00-9.6
WMT WAL-MART STORES38.39-9.67
WU WESTERN UNION80.85-9.74
CMC COMMERCIAL METAL373.33-10.04
WYN WYNDHAM WORLDWID107.50-10.04
CCL CARNIVAL CORP147.21-10.78
MMM 3M CO24.50-10.91
DOLE DOLE FOOD CO INC480.95-11.84
ABT ABBOTT LABS48.25-13.06
NOC NORTHROP GRUMMAN41.92-13.9
MDT MEDTRONIC INC66.78-16
WEC WISCONSIN ENERGY53.50-20.73
PHH PHH CORP811.86
DLX DELUXE CORP379.75

So, how to read the data? The column ’5 Year CDS Spread’ is just the spread or premium as we mentioned above–that a protection buyer is repsonsible for paying to the seller when purchasing protection.

For an example, Radio Shack has very high spreads—1311.69 or 13.11%, meaning that a buyer must pay nearly $1.3 million per year for protection on a $10 million swap.  That’s a pretty high premium, and the credit market is giving us a strong indication that Radio Shack might be nearing the end…especially with its spreads up by 26% in the last month.   Could be a good short, but note that Radio Shack does have a short interest at near 30% of its float.

The prospects for another electronics retailer, Best Buy, are also looking quite grim according to the credit markets.   CDS Spreads are at 5.4%, not as high as Radio Shack, yet up 22% on the month.

Use this as a guide in your short selling research–we recommend finding companies with a noticeable increase in spread for the month, and checking debt levels, cash flows, interest obligations to see if there might be any sense of probabilitiy for upcoming default.  Remember if the short interest is extremely high it might not be worth your costs (to borrow and for the potential for a squeeze).     

Please do let us know if there are any questions or comments on this data.