Agencies narrow at front end on spotty trading; callable investors await higher yields

By Kenneth Lim

Boston, Dec. 22 - Agency spreads closed a touch tighter at the front end of the yield curve Wednesday on scattered year-end trading.

Bullet spreads came in by about 1 basis point in the two- to five-year sectors, while longer maturities stayed flat on a lack of activity.

Trading volumes were thin, although compared to earlier this week, activity picked up a little.

"We actually had a decently busy morning," one trader said. "Don't get me wrong, it's definitely spotty, but there have been some elements of year-end portfolio balancing and what not. But we're not drawing much influence from the market moves today."

The Treasury market, meanwhile, seemed to soften slightly in anticipation of supply next week.

"We had a nice rebound to lower yields, but now we're drifting back to the higher end of the range because we have some supply next week," the trader said.

Another trader pointed out that the agency market managed to outperform swaps.

"Swaps were unchanged to a little bit wider today," the second trader said.

Pining for yield

The callable market was quiet as well after rate levels slipped slightly the last couple of days.

Quite a number of accounts were also seen to still be stuck with older paper that they are trying to unload before making new bids.

"It's more a case of working off existing positions," the trader said.

New issuance volumes spiked the previous week as rates shot up, but some would-be callable investors may have hesitated to buy in hopes of getting even better coupons this week, the trader said. But rates eased lower this week, and issuance has quieted down significantly.

Nevertheless, there is hope that rates will rise again after the Christmas Day break because the Treasury will be issuing debt.

"Clients are looking for the levels they saw last week," the trader said. "People saw those higher yields late last week, and they were being patient, thinking they might see them again with Treasury supply next week."

Late buying still possible

The agency market could still see some life in the typically dead period between Christmas and New Year's Day, the trader said.

"I think we'll see some buying next week," the trader said.

Callable issuance, in particular, could rev up again if rates are just a bit higher.

"Definitely people will be interested in the market if we can get yields 4 or 5 bps higher," the trader said. "If we were to get a backup in rates, I would expect to see a lot more issuance."

Most of the market, however, will simply wait until 2011 to get down to the real work.

"I expect to see the heavy buying in January," the trader said. "There's money to be put to work and there's some cheap stuff lying around out there."

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