Agencies narrow after Freddie Mac skips issuance; month-end, low rates squeeze spreads

By Kenneth Lim

Boston, July 29 - Agency spreads continued to tighten on Thursday as expected supply failed to materialize after Freddie Mac passed on a calendar slot.

Bullet spreads closed about 1 to 2 basis points narrower versus Treasuries across the yield curve, an agency trader said.

"The news of the day for us was Freddie Mac passing," the trader said.

Callables also saw another strong day, and callable spreads came in as volatility stayed low.

"Volatility continues to probe decade-wide lows in short-lock and gamma-type volatility," the trader said, adding that callable spreads are extremely tight at the moment.

Freddie Mac passes

Freddie Mac skipped this week's Reference Notes calendar issuance opening, the agency said Thursday.

The mortgage agency had reopened its 2.875% five-year Reference Notes on July 14 for $1 billion. Its next calendar slot is on Aug. 18.

The market had been expecting Freddie Mac to announce a front-end reopening. Although investors did not think a big amount of supply would arrive, Freddie Mac's decision to pass was nevertheless a surprise for the market.

"They had two slots this month and they only chose to do a reopening and then a pass," the trader said. "Usually if they have two slots, they'll at least do a new issue with one of the two."

The passed slot reflects the lack of funding needs that the government-sponsored enterprises face, the trader added.

"The problem for issuers is as we have gotten lower and lower in yields and swap spreads have tightened, agency-swap spreads have widened," the trader said. "So unless the GSEs really have something to do, they're just passing. All that does is rob us of much-needed supply, so consequently we've seen spreads continue to tighten."

Funding levels are also more attractive outside of the benchmark segments, despite low absolute yields.

"When rates were coming down, to float a new issue Reference or Benchmark, they would have to come at a 3 to 5 bps concession to off the runs to attract money," the trader said. "But now that it's cheapened, they're content to fund themselves in discount notes and roll that over."

Spreads squeezed

The week's tight spreads have also benefited from investors buying up agencies as the month-end approaches and as Treasury yields remain stubbornly low.

"Treasuries have kind of run up against the wall... and people have piled into any kind of spread they can get," the trader said. "The theme is one of extension, reaching out the curve credit wise."

With the month-end approaching and Treasuries still too costly, some investors are moving out into agencies, which are still considered relatively safe assets but offer a bit of yield. And the large amount of cash that accounts have been hoarding is desperately looking for a good home.

"Now that the supply is out of the way with Treasuries, all we have is month-end, so the amount of cash being put to work for month-end is overwhelming," the trader said.

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