Agencies narrow as investors flock to safe havens; Fannie Mae plans five-year offering

By Kenneth Lim

Boston, March 1 - Agency spreads came in on Tuesday amid flight-to-quality bids and short covering, while Fannie Mae met the market's hunger for longer maturity paper with a five-year offering.

Bullet spreads closed a touch tighter versus Treasuries and swaps on Tuesday, with the front end of the yield curve doing slightly better.

"For the most part we're a little bit firmer on the day versus Treasuries and outperforming swaps," an agency trader said. "I think we've got a little bit of a dynamic of some of the covering in two- to three-years because of the Fannie Mae deal."

Fannie Mae to sell five-years

Investors were cheered by Fannie Mae's decision to sell five-year Benchmark Notes on Wednesday.

Price talk was at a spread of 30 basis points over Treasuries, market sources said. The size of the deal has not been set, but it is expected to be at least $3 billion. The trader said the domestic order book was heard to be "north of $6 billion" by the close with Asia yet to come.

Barclays Capital Inc., Citigroup Global Markets Inc. and UBS Securities LLC are the lead managers.

Price talk represented only a slight concession to surrounding issues, the trader said.

"Obviously the market was very happy to hear Fannie Mae come out with a five-year," the trader said. "The market's thirsting for something on the run in that sector, so I think there's not much need for much of a concession."

Investors had been speculating for some time that Fannie Mae or Freddie Mac would have to issue a new five-year series of notes soon, given that funding levels had reached the attractive Libor-flat just a week ago, the trader said.

Freddie Mac skipped its calendar slot in the last week of February, so attention shifted to Fannie Mae as the next most likely to issue a five-year. But Fannie Mae also had strong incentives to pass this round.

"It's kind of gotten to the point where there's so much out there that would deter them from coming with a deal," the trader said. "Given that they have two slots this month, and given the volatility in the market with the Middle East and looking forward to payrolls, if they decided not to come that would not be a surprise either."

The Fannie Mae announcement helped the two- and three-year sectors on Tuesday as investors backed off of positions that anticipated a front-end offering.

"There's always a little bit of setting up in case they do a two- or three-year, and the sectors they don't hit tend to tighten a little bit," the trader said.

Rates climb

Agency spreads also got a boost on Tuesday from what appeared to be safe-haven bids early in the day, the trader said.

The chief culprit was probably the ongoing unrest in the Middle East and Libya, the trader said, but the magnitude of the move was puzzling.

"A lot of people here are scratching their heads trying to figure out why the market's moved so much when there's no real new news," the trader said.

The trader said some of the rates rally on Tuesday may have been from short covering as investors who had bet against lower rates caved in to the bulls.

"I think there's an element of shorts out there," the trader said. "We've kind of ground toward tighter yields for some time. Now everyone's trying to sell the upticks, and I think there might be some running over of shorts...Because why should people suddenly be more concerned?"

The domestic economy has been put on the backburner by investors as the Middle East unrest hogs the headlines, but this week's non-farm payroll numbers on Friday could be a market mover, the trader said.

"We've rallied pretty strong here, from 3.77% in 10s [Treasuries] a couple of weeks ago by about 40 bps...on the concerns over tensions in the Middle East, yet in the back of people's minds they're still looking at the data," the trader said. "If you get a big, strong number on Friday, I think you could see some selling."

Investors could also step back from the recent rally to get a jump on the coming week's Treasury supply, the trader said.

"I wouldn't be surprised to see some profit taking on Friday's numbers," the trader said.

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