Here is an update on the TED Spread - the difference between the 3 month treasury and the 3 month Eurodollar rate. This measures the amount of perceived risk to lend to a banking counterparty. From 2002 to 2006 the spread averaged .288. Currently it is at 1.14 (as of 8/15/08).
The spreads reached very high levels in the 70s and early 80s when inflation was running rampant. The spread reached a high of 5.97 in July of 1974, and the Eurodollar rate was 13.52%. This next chart shows the spread as a percentage of the Eurodollar. This allows for comparison of the TED Spread during periods of high inflation and lower inflation. Using this matrix, the current spreads are at historic highs. The chart also shows the year over year change in the S&P 500.
The following chart shows the daily fluctuations of the TED Spread. Looking at the TED Spread, it looks like the current credit crisis has gone through 4 waves where the TED Spread has gone over 1.5.
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2 comments:
I attended a CFA conference this week where Donald Coxe of BMO Financial Group suggested that an increase in the TED spread preceeds a drop in the equity markets. Do you know if this relationship holds up over long periods of time? I'm also curious if it means that every time the TED spread increases it leads to a drop in the equity markets. If so, it seems like something everyone would watch.
This post delves deeper into the relationship between the TED Spread and equity market:
http://financialsight.blogspot.com/2007/12/beware-ted-spread.html
As mentioned in that post: When the spread jumps, there is a perceived risk in the immediate future (next 3 months) that wasn’t there the previous month. Interestingly when looking at the S&P 500 since 1985, when the spread first goes over 1%, in the ensuing 3 months the S&P 500 has performed better than average. However, over the next 3 months (months 4-6), the market has underperformed.
As Mark Twain once said, "A banker is a fellow who lends you his umbrella when the sun is shining, but wants it back the minute it begins to rain."
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