Agency spreads flat; investors eye recent richening; Fannie Mae offers two-year Benchmarks

By Kenneth Lim

Boston, April 14 - Agency spreads closed mostly unchanged on Wednesday as recent richening in the market kept buyers at bay.

Fannie Mae announced an offering of two-year Benchmark Notes that led to some widening in the sector.

Bullet spreads widened by about 1 basis point in the two-year sector on the Fannie Mae announcement, while in the 10-year sector some tightening was seen on targeted buying by rate investors. The rest of the yield curve ended unchanged.

"There's some buying at specific yield levels, whether it's eight-years or 14-years or 20-year paper, but there's definitely some yield buyers out there," an agency trader said. "Anything with spreads in it at the moment is pretty well bid."

But trading volumes were extremely light after the market's sharp tightening on Tuesday.

"It's been really quiet," the trader said. "We're seeing better buying across the curve in bullets and callables, but agencies look extremely rich now against Treasuries. Volume is pretty low. I'd say it's 50% of the average even with the announcement of the [Fannie Mae] two-years."

Callable issuance continued to be strong despite the market's tightness, the trader said.

"A lot of deals were done today," the trader said. "With the market rallying, usually you'd see the pace of callable issuance slow down. But there's still a lot of money being put to work. A lot of money from the mortgages is coming into callables."

Fannie Mae to sell two-years

Fannie Mae talked a planned offering of new two-year Benchmark Notes at an initial spread of 25 bps over Treasuries, market sources said.

The size of the deal has not been set, but it is expected to be at least $3 billion.

Barclays Capital Inc., Citigroup Global Markets Inc. and UBS Securities LLC are the lead managers.

Price talk implied a concession of about 1 to 1.5 bps over surrounding issues, and investors did not seem motivated to switch out of older paper, the trader said.

"The two-years widened because of the supply," the trader said. "I didn't see any switches or anything like that. People weren't selling in order to buy this."

The size of the deal will probably fall between $3 billion and $4 billion, the trader added.

"Depending on how the overseas guys go tonight, I would say $3 billion to $4 billion," the trader said.

Spread bears succumbing

The trader noted that the recent narrowing of agency spreads was unexpected for many investors who saw weakness in the market at the end of the previous quarter.

In fact, the Street was probably short on agency spreads at the end of March on concerns about the end of the Federal Reserve's agency debt buying program.

"I don't like these levels," the trader said. "I was kind of bearish coming into this quarter, but it's kind of like you can fight the tide for a while, but you eventually have to just give up...I've been forced to buy some myself."

But the two- and 10-year parts of the curve appear "as tight as they're going to be" at the moment, the trader said, while three- and five-years have a little bit of room to narrow.

"We could possibly see some more buying in the threes and fives, but the wings seem like they've come in as much as they can come in," the trader said.

The second half of the week could see a bit of widening as the corporate issuance calendar slows down before the weekend and swap spreads loosen up a little, the trader said.

"That might put a cap on the swap tightening, and you might see spreads go out a little bit there," the trader said. "I'm not looking for huge widening, but maybe a basis point or so on a slight rally in the Treasury markets based on maybe a correction in equities."

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