Agencies widen on profit taking as dollar, Treasuries rally; FOMC news, Freddie Mac eyed

By Kenneth Lim

Boston, June 22 - Agency spreads widened on Tuesday as investors took profit on recent tightening and a strong U.S. dollar.

Bullet spreads shifted out by 1 to 2 basis points in the five- to 10-year sectors on Tuesday, while the shorter end of the curve was mostly unchanged, an agency trader said.

"Today we were lower on the day," the trader said. "Yields were lower, so we saw some selling because of that."

The picture was the opposite in callable land, where buyers were the ones who got to take advantage of the low yields.

"There was good buying of callables given the low yields," the trader said. "There were a lot of new issues in callables...a lot of those balances got taken out just because they were below par, and guys would be reinvesting."

The recent slide in underlying volatility has also helped to attract bidders for callable structures.

"Volatility is up today, but it's been hard hit over the past week," the trader said.

Trading volumes remained lighter than usual, although activity picked up slightly from recent days.

"Volumes are about 75% of average," the trader said. "Definitely volumes are down a lot. There's the World Cup, and today's the final group games, so that might explain it a little."

Timely correction

Investors were taking profit on Tuesday after agency spreads had been tightening for more than a week, the trader added.

Tuesday's Treasury market rally and strengthening of the U.S. dollar also provided impetus for holders of agency paper to sell at a recent high, the trader said.

"There's been good tightening recently... and there's a bit of profit taking," the trader said.

FOMC, Freddie Mac ahead

Two headline events will be worth watching in the days ahead, the trader said.

On Wednesday, the Federal Reserve's Federal Open Market Committee concludes a two-day meeting, and investors will want to see if the central bank's language on its interest rates policy changes.

"We will watch the language," the trader said. "I would be very surprised if they change it substantially. I doubt they will say anything more dovish."

Freddie Mac also has a calendar announcement on Reference Notes issuance on Thursday. The Street has been quiet in terms of speculating about the deal, and traders will probably wait until Wednesday to set up for any expected offering, the trader said.

But the trader expects the deal to do well because the primary calendar will not open again until July 7, and any supply from Freddie Mac should not strain spreads significantly.

"Following Freddie Mac there's no supply for 12 days, so that should help the market to take any supply," the trader said. "It's only a couple of times a year that we get this situation of no supply for almost two weeks."

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