Agencies tighten; market calms from December volatility; Freddie Mac eyes three-year sale

By Kenneth Lim

Boston, Jan. 4 - Agency spreads narrowed slightly on Tuesday as markets sought to settle down from the previous year's rocky ending.

Bullet spreads saw mixed results across the yield curve but on the whole came in by about 0.25 to 0.5 of a basis point versus Treasuries, an agency trader said.

"It's a little bit better than yesterday," the trader said.

The callable market remained relatively quiet as investors were slow to return after the new year.

"It's a pick-up relative to yesterday, same as bullets, but it seems as if the market's slow to come back," the trader said.

The trader said the slow tightening of agency spreads so far this week may be a technical correction of the widening over December.

"We're into a new year, and rates seem to be somewhat stabilizing," the trader said. "We had such a massive push up in volatility in December, and it's tapering somewhat. You had corporate spreads tighten and mortgage spreads tighten, but agency spreads widened most of December. I think you will see that reverse."

Freddie Mac plans three-years

Freddie Mac said Tuesday that it will offer new three-year Reference Notes on Wednesday.

Price talk on the deal was at 27 basis points over Treasuries late Tuesday, market sources said.

Barclays Capital, Citigroup Global Markets Inc. and J.P. Morgan Chase are the lead managers.

The deal was getting a strong response during marketing Tuesday and could fall in the $3 billion to $5 billion range, the trader said.

"It's going very well," the trader said. "A lot of people are looking at that part of the curve right now. Actually they were also looking at that part of the curve last month."

The market was expecting an offering in the five-year and under sectors, but it is not clear how many predicted an offering of three-years, the trader added.

The agencies have not issued any benchmark-sized bullets in more than a year, and whether they do so or not will depend on how stable their portfolios are, the trader said. Uncertainties about foreclosures will probably lead to borrowing at floating rates and therefore shorter-term bullets because "most of the sub-Libor funding in bullets is still sub-five years."

"If they have a fairly stable part of their portfolio, they may just do a fixed-to-fixed, kind of the way a bank would lock in the margin," the trader said. "But with foreclosures still picking up, it's going to be unstable for their portfolios."

Market shrugs off Fed minutes

The minutes of the Federal Open Market Committee's December meeting did not cause any big moves in the market, the trader said.

"It didn't really have anything for agencies," the trader said.

In the minutes, members of the central bank's policymaking body seemed to report a slight improvement in economic conditions, although there were disagreements over what posed the greatest threat to recovery.

"Participants generally agreed that the most likely economic outcome would be a gradual pickup in growth with slow progress toward maximum employment," the minutes stated. "They also generally expected that inflation would remain, for some time, below levels the committee considers most consistent, over the longer run, with maximum employment and price stability."

In the December meeting, the FOMC voted to maintain the Fed's $600 billion quantitative easing program of buying Treasury debt through June 2011.

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