Agencies narrow as Treasuries tumble; mortgage buying gives support; FHLB skips issuance

By Kenneth Lim

Boston, Dec. 8 - Agency spreads tightened on Wednesday as Treasuries continued to drop amid concerns about inflation.

The market also benefited after Federal Home Loan Banks decided not to use its calendar slot to issue new Global Notes.

Bullet spreads outperformed Treasuries and swaps in "one of the better performance days for agencies in quite a while," said Michael Skinner, an agency trader at Wall Street Access.

"Swaps tightened 1 to 4 basis points across the curve, and agencies slightly outperformed swaps," he said.

Callable issuance was strong as the market tried to take advantage of the run-up in yields. Higher yields mean higher and more attractive coupons on new callable issues.

"With the volatility in the market, we're seeing very much larger coupons in callable land," Skinner said. "So we have seen a flurry of guys trying to print with the higher coupons."

The excitement in callables has been restricted to new issues, however, with the secondary callable market hardly making a sound.

"Overall it's been pretty quiet," Skinner said. "If they're buying anything, it's new issues."

Rates climb higher

The agency market finally held some of its ground on Wednesday after falling with Treasuries in previous down sessions.

Treasuries on Wednesday continued Tuesday's sharp declines on the back of news that the White House and the Republican controlled House of Representatives had agreed to extend tax cuts and jobless benefits. The deal is expected to add to the federal budget deficit and fuelled fears of inflation, which hurt fixed income markets.

"Today obviously you walk in and Treasuries were getting drilled, although stuff did rebound today," Skinner said.

There was market chatter of a big buyer in mortgages, which helped to provide some support.

"That set a better tone for swaps and agencies as well," Skinner said.

But low volumes continue to plague agencies as the end of the year approaches.

"Liquidity is very poor," Skinner said. "I personally see a lot of accounts getting out of longer-dated stuff before the year-end, and I think we will continue to see that."

The high volatility in the market at the moment is also keeping wary investors on the sidelines.

"Your guess is as good as mine in terms of where do we go from here," Skinner said.

FHLB skips issuance

FHLB said Wednesday that it will not issue new Global Notes in this week's calendar slot.

The agency's issuance calendar reopens Jan. 18.

The market had not been expecting a big offering from FHLB this week, and any deal was expected to come at the front end of the yield curve, traders said.

"It's not at all a surprise," Skinner said.

But Skinner does not expect much from the benchmark issuance pipeline for the rest of the year. Freddie Mac has a calendar announcement on Dec. 15, and Fannie Mae has one on Dec. 20 before the issuance calendar closes for the year.

"I think issuance will be nil; that's my personal opinion," he said. "That's why in November Fannie Mae and Freddie Mac issued a lot of late-December maturities, to give the market time to take it down."

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