Agencies narrow with swaps; low Treasury yields help push investors to riskier markets

By Kenneth Lim

Boston, July 15 - Agency spreads tightened on Thursday in sympathy with swaps as weak economic data gave a boost to bond prices across the board.

Bullet spreads came in by about 1 basis point throughout the yield curve, an agency trader said.

"The curve continues to flatten," the trader said. "A lot of people have been moving out on the curve because the front end is too rich."

Callable issuance remained brisk as investors looked to step-up structures for better-yielding defensive positions in the current low interest rate environment.

"Callables are still going strong," the trader said.

Trading volumes were slow, however, putting a damper on Thursday's tightening.

"It's been another quiet day," the trader said. "It's hard to get people to want to buy when everything is so expensive. Everybody's waiting for the pullback that never seems to come."

Volumes may recover as the month enters its second half, the trader added.

"You could see a little bit of month-end buying," the trader said. "[It's] kind of like what we saw at the end of June, but on a smaller scale. It was the same thing, people waiting for rates to go back up, and when they didn't and they couldn't wait any longer, suddenly you saw all the buyers come out of the woodwork."

Swaps pull higher

The agency market got a leg up from swaps, which tightened on Thursday amid strong corporate issuance.

"Swaps have been doing well because there's a lot of new corporate paper being printed, and a lot of guys are hedging because of that," the trader said. "It definitely helped agencies that swaps were doing well."

Weak economic data released Thursday also helped to draw buyers toward agencies and other investment-grade markets even as Treasuries rallied, the trader said.

"Treasuries did rally, but there was a bit of a trickle-down effect," the trader said. "It feels like there's a little more comfort now compared to a month ago about holding investment-grade paper that's not Treasuries. So when you have a small flight-to-quality kind of trade like we saw today, and Treasury yields are so low, you'll see agencies benefit a little from that as well."

The producer price index fell 0.5% in June, raising fears that the consumer price index announcement on Friday would reflect a weaker economy.

Mixed ending

The agency market looks set to enter the weekend not far in terms of spread from where it began the week, the trader said.

"It's been a bit of a mixed bag this week," the trader said.

Part of the problem for agencies was a lack of significant headlines to catch the attention of distracted investors.

"It's going to be like this for the whole summer," the trader said. "On a slow news day, nothing's going to happen."

Freddie Mac's smaller-than-expected issuance on Wednesday - a $1 billion reopening of five-year Reference Notes - was also no help in attracting funds.

"Freddie Mac was quite a disappointment," the trader said. "We really need to have some new issuance to give people something to buy, because nobody's going to buy any agencies when we're trading so tight to Treasuries."

Friday's consumer price index announcement is not expected to be a major market mover, the trader added.

"My guess is it's only going to confirm what we already know, which is that the economy is still weak, but that's already priced in," the trader said.

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