GM Aftershocks

From the FT($$):

Many funds are believed to have bought GM bonds, which had fallen sharply in March following a profits warning, in the belief that the debt was oversold. Simultaneously, bets were placed short-selling the company's shares.

But last Wednesday, the stock leapt 18 per cent on news of billionaire Kirk Kerkorian's tender offer for shares in the struggling carmaker. On Thursday, Standard & Poor's caught the market off guard by finally downgrading the company to junk, pushing GM bonds sharply lower.

I did not think about this effect but it could be very powerful in the short-term. The risk is similar to the liquidity risk when LTCM went under. In the long-run either your bonds will pay off or the stock goes to zero but margin calls and marking-to-market are very real risks to levered players. Making it to see the long-term is the challenge.

It would need some pretty big knock-on effects into other issues to cause a real problem. Otherwise other funds who were uninvolved would be jumping into the bond stock spread or at least shorting GM stock against the $31 level.

Even easier for F with no looming bid.

*Update 4:00 PM - I having been looking at Merrill Lynch (MER) the last couple of nights and thinking it looked an aweful lot stronger than some other big financials (like Citigroup (C)). Since MER is involved in the GM bid I had kind of an "aha" moment thinking they would be prepositioned to pick up the pieces on a move like today. MER , however, is not holding up so well today so I guess I will just file my thought away for later.