Agencies close mixed but outpace swaps on weak payrolls expectations; jobs data eyed

By Kenneth Lim

Boston, Aug. 5 - Agency spreads ended mixed on Thursday amid front-end selling as markets turned pessimistic about Friday's payrolls data.

Bullet spreads widened by about 0.5 basis point at the short end of the yield curve, while the five-year sector closed unchanged on the day. Long-term spreads tightened a touch versus Treasuries.

"Long-end agencies outperformed both Treasuries and swaps; they tightened at the end of the day," said Craig Ziegler, an agency trader at Gleacher & Co. "In five-year land, which was probably the most active issue out there today, we ended up fairly unchanged."

Extension trades, made by investors moving out the yield and risk curve to pick up some extra yield, dominated the session, he added.

Callables had another active session, although most of the issuance came in smaller deal sizes.

Federal Farm Credit Banks "did a lot of smaller deals today...of just a little over $600 million," Ziegler said.

Trading volumes eased off in the afternoon after a strong start.

"Volumes were good in the morning, but it slowed down a lot in the afternoon," Ziegler said.

Weaker swaps

Agencies came under some pressure on Thursday partly because swap spreads widened against Treasuries.

"Swaps widened about 1 to 1.5 bps, so you had a bit of widening because of that," Ziegler said.

On the whole, however, agencies mostly outperformed swaps, he added.

Another agency trader said agencies somewhat managed to keep pace with Treasuries on Thursday partly because agencies were able to still attract some safe-haven money. The back end of the curve has also benefited from some weakness in long-term Treasuries.

"In the minds of some investors, agencies aren't that different from Treasuries at this point in terms of the risk exposure," the trader said. "But agencies offer a little bit more yield, which has become more attractive in this low interest rate environment."

The trader said the limiting factor for agencies has been the lack of liquidity in the market.

"I think the spreads that we're seeing now, particularly at the front end, are liquidity risk more than default risk," the trader said.

Payrolls ahead

Investors are waiting for Friday's non-farm payrolls and unemployment numbers to get a better grasp of the economy's health, the traders said.

"You've got the front end close to low yields for the year, so it's obviously all on jobs tomorrow," Ziegler said.

Gains in yields and wider spreads would probably attract buyers who are waiting on the sidelines for some of the current richness in the market to ease up, he added.

"We're lofty right now, so every time we get down, guys are issuing callables, buying callables, especially at the front end," Ziegler said.

The other trader said the market is expecting poor data on Friday, which could widen spreads in general.

"If it's as bad as people expect, we could see more of a flight to quality," the trader said. "It's a very important set of data, and it's going to set the mood for the next few weeks."

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