Agencies narrow as long end recovers from back-up; market eyes front-end Freddie Mac deal

By Kenneth Lim

Boston, Oct. 18 - Agency spreads tightened on Monday, with the longer end of the yield curve drawing stronger interest on the previous week's back-up in rates.

Agency spreads narrowed slightly versus coming out of the weekend, said Gleacher & Co. trader Craig Ziegler.

"Agencies continue to trade well...The front end was fairly unchanged, although there was still a fair amount of business in the front end," he said.

Compared to swaps, however, the agency market was an outperformer.

Callable issuance was quieter, with Federal Farm Credit Banks dominating the primary scene on about $900 million worth of debt.

There were "not too many big deals," Ziegler said, "mostly five-years and under and some step-ups."

The callable market remains driven by the reinvestment of older paper that is being called by issuers hoping to take advantage of the low interest rate environment.

"[There is] a lot of replacement activity," Ziegler said. "Because of the low yields, so many bonds are getting called, so there needs to be some reinvestment there. Unfortunately, customers may not like the yields, but they don't have much of a choice. Even though they're rich, they're still cheaper than bullets."

Long end rebounds

The longer end of the yield curve performed slightly better on Monday after getting drummed the previous week.

"When you walked in you had the bond sitting at close to 4%, then it traded all the way to almost 1 point up, then it came back down a little bit," Ziegler said. "So basically for the better part of the afternoon [the market] saw better buying in the longer end."

The market did see some pressure from Wal-Mart Stores Inc.'s $5 billion offering of three- to 30-year debt.

"The pricing of the Wal-Mart deal...kind of weighed on the market because they were unwinding the hedges," Ziegler said.

Freddie Mac announcement ahead

Freddie Mac is expected to announce a new offering of two-year Reference Notes on Tuesday, Ziegler said.

"The market is mostly thinking they'll do a new two-year," he said. "There's still a lot of appetite at the front end, so that's where they'll probably come and try to fill some funding needs."

Demand for agencies remains strong, and buyers will probably be lurking behind any dip in the week ahead, Ziegler added.

"I think if the market sells off, there will continue to be buyers of the dip, so agencies will be sought after," he said. "I'm looking for maybe the longer end to slow down a little bit, but appetite will still be there for two years."

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