Agency spreads tighten amid calmer markets; Freddie Mac gets strong response for two-years

By Kenneth Lim

Boston, May 26 - Agency spreads tightened slightly at the long end on Wednesday as flight-to-quality pressures eased.

Freddie Mac announced an offering of new two-year Reference Notes, which attracted a strong order book.

Bullet spreads recovered from Tuesday's widening as positive domestic economic data eased some of the fear that had sent money fleeing for safer investments.

"We're a little bit tighter on the long end, but the short end's kind of been weighed down by the Freddie Mac deal that's pricing tomorrow," an agency trader said.

Callable issuance was robust, with Federal Farm Credit Banks one of the more active issuers.

"Farm Credit's hit the market pretty hard the last couple of days," the trader said. "They hit a $1 billion deal a couple of days ago and then did a couple more chunky deals today."

Low interest rates have been driving redemptions as issuers call existing paper, and the redemptions have in turn been keeping demand healthy for callables.

"The majority have been auction callables; however, you continue to see more step-ups in regions," the trader said. "Given where rates are right now, that continues to fuel redemptions."

Trading volumes were reasonably brisk after the recent volatility put a damper on activity.

"It feels like there's a decent amount of volume going through the marketplace," the trader said. "But I think there's probably more activity in Treasuries and rates. There's a fair amount of new paper coming through...but the longer end has been a little quieter."

Dealing with uncertainty

Wednesday's tightening was seen as a natural follow-on to Tuesday's sharp widening, the trader said.

"We were blown out yesterday, obviously," the trader said. "The Libor uncertainty over the past few days has caused term swap rates to widen out, especially in the two-year sector. Every time the stock market threatens to crash or bad news comes out of Europe, people try to shed risk, and inevitably you get a pullback and stocks bounce and guys are trying to cover their shorts."

But Wednesday saw investors leaving the sidelines to make moves.

"Most of our clients I'm seeing money put to work," the trader said. "Accounts have money to spend, but they're picking and choosing, waiting for the right levels."

Investors are also reluctant to sell paper that is considered rich, because there are few alternatives.

"There's definitely some secondary paper out there at less than attractive rates, but no one's necessarily looking to dump paper right now, because they're willing to sit and get some yield compared to zero percent."

Freddie Mac launches two-years

Freddie Mac met market expectations with the announcement of a two-year offering of new Reference Notes to price Thursday.

Price talk was at a spread of 30 basis points over Treasuries, market sources said.

The size of the offering has not been set, but it is expected to be at least $3 billion.

J.P. Morgan Chase, Citigroup Global Markets Inc. and Goldman Sachs & Co. are the lead managers.

The deal saw strong demand during marketing, drawing orders for more than $7 billion, the trader said.

"I'd imagine it would be a $4 billion to $5 billion deal," the trader said.

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