Agencies flat as Fannie Mae two-year deal sells well; higher volatility eyed after weekend

By Kenneth Lim

Boston, Aug. 27 - Agency spreads stayed mostly flat on Friday as Fannie Mae saw strong demand for its new two-year Benchmark Notes.

Bullet spreads closed mostly unchanged on the day, an agency trader said.

"It was a pretty good day all in all just because the market sold off so much and there was a lot of underwriting," the trader said. "Spreads held fairly constant."

Although agencies were essentially flat against Treasuries, swap spreads widened against government debt.

"We had swaps move out, widened maybe about half a basis point," the trader said. "From that standpoint actually agencies outperformed."

Callable issuance also picked up as absolute rates increased on the day.

"Everything else hung in there pretty well," the trader said. "It was a fairly active day."

Fannie Mae sells two-years

Fannie Mae received strong demand for its new 0.625% two-year Benchmark Notes, the trader said.

The agency priced $5 billion of 0.625% two-year Benchmark Notes on Friday at a spread of 18 bps over Treasuries. The notes priced at 99.846 to yield 0.7%. Price talk was at a spread of 18 bps over Treasuries.

Barclays Capital Inc., Goldman Sachs & Co. and J.P. Morgan & Co. were the lead managers.

The new paper tightened over the day, closing at a spread of about 16.5 bps bid, 16 bps offered.

"It was a real good performer," the trader said.

Investors were attracted to the issue because it offered a short-term cash equivalent, the trader explained. Because of the recent run-up in Treasury prices, investors have been forced to go out on the yield curve in order to get acceptable returns.

"With as much as rates have come down prior to today, you had quite a bit of people being forced to take on duration risk," the trader said. "Some people were having to go out on the curve to replace the yield that they were losing. When you look at how much cash is sitting around, a lot of people pulled out of equities and they're not going to let that money sit around."

Strong domestic interest

The trader added that most of the buyers of the new Fannie Mae notes were domestic investors.

Domestic buyers took 72.5% of the notes offered on Friday, according to Fannie Mae. Asian investors bought 9.5%, while Europe took 2.9%.

Fund managers were the largest bloc in terms of investor type, receiving 56.2% of the offering. Central banks were next, with 25%, while commercial banks bought 10.7% of the notes.

"They wanted something at the front end," the trader said. "Outside of insurance companies and pension fund managers, a lot of people are trying to shorten durations somewhat."

The new two-year notes were also attractive compared to one-year paper and a relatively better value than three-years.

"They're playing the roll-down," the trader said. "They can buy a two-year and sell it within one year, and if rates don't go up by 25 bps they come out on top."

Late volatility possible

The last week before Labor Day is usually quiet for the markets, but Friday's moves could offer traders some action after the weekend.

"Ending on a note like we ended on this week, we could actually see some fairly decent volatility for the front part of the week," the trader said. "And we've got some supply as well."

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