Agency spreads widen as investors take profits; FHLB reopens two-year notes for $1 billion

By Kenneth Lim

Boston, Jan. 20 - Agency spreads continued to show weakness on Wednesday as rate investors took profit on lower yields.

Federal Home Loan Banks also put some pressure at the front end of the yield curve by adding $1 billion to supply in the two-year sector.

Bullet spreads expanded by about 1 to 2 basis points at the shorter end of the curve on Wednesday, while the widening was about 2 to 3 bps further out.

The widening came as Treasury prices rallied amid a weak equity market and a flight to quality.

"We were a little weaker on the front end," one trader said. "There was a fair amount of rates selling with the rally in rates."

Callable issuance was average, with "a fair amount being issued," the trader added.

Weak volumes

Trading volumes in general were relatively thin, as the agency market continues to suffer from money trickling out toward better-yielding assets.

"Overall the tone has been quiet...people have been moving out of agencies," the trader said.

The rally in rates on Wednesday provided an opportunity for some investors to take profit, the trader added.

"Spreads are pretty much unchanged from [two weeks ago]...but yields are 15 bps lower," the trader said. "Ironically I think that historically, at least, the benchmarks are trading fairly cheap right now. It's just a rates issue right now, not necessarily a spread play, more like a yield play."

Investors are also looking to the next week for guidance on where the market could be heading for the rest of the year.

"You got the [Federal Reserve] on tap next week with their first meeting of 2010," the trader said. "We're starting to hear some drumbeats for possible [policy] tightening throughout the year."

FHLB widens

FHLB's reopened 1% Global Notes due December 2011 widened slightly on Wednesday to close at a spread of around 13 bps.

The notes, which saw $1 billion added through the offering, were sold at 100.057 through an auction for a yield of 0.97%, according to a press release.

The bid-to-cover ratio was 3.8 times.

The auction price represented a spread of about 12 bps, the trader said.

"It came right at the market," the trader said. "It was a reopening, so it was a bit of a non-event, but it did soften the sector a little."

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