Agencies lag Treasuries, swaps as Europe fears take center stage; buyers stay on sidelines

By Kenneth Lim

Boston, June 7 - Agency spreads widened on Monday as continuing concerns about Europe's debt crisis led to a poor session for the market.

Bullet spreads closed about 1 to 2 basis points wider versus Treasuries across the yield curve on Monday, said Michael Skinner, an agency trader at Wall Street Access.

"Actually, agencies were outperformed by both Treasuries and swaps," Skinner said. "[It was] kind of a poor performance, definitely not a good day for agencies."

Another agency trader lamented at the end of the day that buyers had vanished from the market on Monday.

"I don't see any buying, only selling," the trader added.

Trading volumes were also slow.

"Not terribly busy in GSE land today," Skinner said. "But a fair amount of medium-term notes type callables hit the tape today."

Falling behind

Spreads lost ground in a continuation of Friday's widening, and persistent concerns that Europe's efforts to contain its debt crisis could fall short or hamper the global economic recovery remained the biggest weight on the market.

Those concerns sent investors rushing for Treasuries, pushing out spreads across all markets.

"Agencies could not keep up with Treasuries today," Skinner said. "It seems like we walked in and there was a little bit of panic."

Skinner said agencies actually held up relatively well given the broader circumstances.

"We didn't gap out, just a little wider," he said. "Probably somewhat indifferent, but perhaps a little nervousness in the air, shall we say, with things across the ocean and the issue with the oil spill. The only thing holding steady is Treasuries."

"Treasuries continue to rally here as we approach 3% in 10s," he added. "I don't see how agencies can keep up."

The dominant strategy for investors at the moment appears to be simply holding cash.

"A lot of guys are staying short," Skinner said. "I've seen a lot of enquiries for money market paper, a lot of stuff in callables, step-ups which can be defensive in a back up. A lot of guys [are] keeping it close to home."

Fannie Mae ahead

Fannie Mae could announce an offering in the front end of the curve on Wednesday, when a calendar slot opens up, Skinner said.

"Probably twos or threes," he said.

The front end is the most attractive part of the curve for issuers, but Fannie Mae and Freddie Mac sometimes also face pressure to maintain liquidity in more expensive parts of the curve, Skinner said.

"So there's an outside chance for a five-year, but as you have seen, most of the globals have been at the front end," he said.

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