CDS-Bond Basis - Any credit traders in here?

Question

(Probably) rookie question for any credit trader out there:

Why wouldn't you be able to take that trade?

Short T 6.125 08/15/29
Long CVS 9.35 01/10/2023 Corp
Long CVS CDS USD SR 5Y D14 Corp

Earn 496 bps, Lever up, Repeat.

I assume you can't because the basis has been slowly decreasing from -584 on Nov 30, with no apparent big size trade. (HS on BBG)

dv0123 · Accepted Answer

I dont really know why there is a treasury leg here (I know why, but treasuries aren't really a benchmark in the derivatives world, libor is)

In practice the bond's ASW (spread over libor) or Z-spread (spread over the zero-coupon swaps curve) is compared to the CDS.

A CDS spread can be thought of as a synthetic asset swap spread

A CDS spread can also be thought of as a floating rate note funded at libor, the remainder is just the credit component

I agree with cliff, the basis is driven by a lot of technical factors, liquidity of the bonds vs cds is the most intuitive to understand

dv0123 · Answer

Think about the basis as the difference between the CDS - ASW

ASW is the asset swap spread. While the the drivers of the basis are quite technical, I think the most straightforward driver is liquidity. As the credit deteriorates, hedge funds will bid up the price of the protection. The cash bonds, however, are more difficult to short (repo market) and may be held by real money accounts who do not actively trade. This creates a positive basis situation. We could sell CDS and short the closest maturity cash bond.

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CDS-Bond Basis - Any credit traders in here?

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CDS-Bond Basis - Any credit traders in here?

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