Agency spreads stuck as investors digest equity rally; FHLB new three-year Global Notes flat

By Kenneth Lim

Boston, Oct. 14 - Agency spreads were unchanged to slightly tighter on Wednesday as investors appeared to be waiting out the equity rally, market sources said.

Federal Home Loan Banks' new 1.625% Global Notes due 2012 also ended flat, although the deal was seen to have received strong interest.

Bullet spreads closed flat with volumes extremely thin, said Mary Ann Hurley, vice president of fixed income trading at D.A. Davidson & Co.

"Spreads are about the same to maybe a little bit tighter by a basis point," she said. "It's very, very quiet, although there has been a lot of new issuance in callable land."

But the market could be on the brink of some tightening because of investors waiting to pounce from the sidelines, Hurley added.

"I think there's a lot of money out there," she said. "But given the volatility in the market and the fact that we were down and stocks have a strong bid, people are hoping to eke out a couple more points. I think there's a lot of money out there still waiting."

One agency trader on another desk echoed those thoughts, saying that investors were still digesting a session when stocks staged a strong rally, with the Dow Jones Industrial Average closing above the psychologically significant 10,000 level for the first time since 2008.

"There are a lot of moving parts in the market right now," the trader said. "Stocks are screaming, dollar's getting crushed, oil's screaming."

FHLB flat on debut

FHLB's new 1.625% Global Notes due November 2012 closed at the same spread at which it was priced, 24.5 bps over Treasuries.

The notes were sold at 99.784 for a yield of 1.697%. Price talk for the $3.5 billion deal was at a spread of 24 bps, which represented a concession of about 4 to 5 bps, the agency trader said.

Banc of America, Credit Suisse and Deutsche Bank were the lead managers.

The offering saw good initial response from investors, but the excitement in the secondary was dampened by the thin volumes in the broader market, the trader said.

"We did see some flows as far as taking orders on it, but as far as secondary trading, I haven't seen anything on that," the trader said.

The deal was oversold within hours of announcement, according to a statement from FHLB.

Domestic investors bought 68% of the offering, with Asian investors taking the next biggest slice with 14% and European investors taking 8%.

Fund managers received 58% of the notes, while central banks bought 19% and other financial institutions bought 10%.

Fed purchases in spotlight

The Federal Reserve Bank of New York could announce on Thursday its next outright agency coupon purchase operation, and that could affect spreads as the week comes to a close.

"Whatever they announce, that sector will probably tighten," the agency trader said.

Hurley noted that the agency market also had some positive reaction to the minutes of the September Federal Open Market Committee meetings, which were released on Wednesday. In particular, the minutes stated that some FOMC members "thought that an increase in the maximum amount of the committee's purchases of agency MBS could help to reduce economic slack more quickly than in the baseline outlook."

"Certainly agencies were not mentioned, but the hope is that that would be extended to agencies as well," Hurley said.

George Goncalves, chief fixed income strategist at Cantor Fitzgerald, wrote in a note that the market should expect more discussions at the Fed about winding down the purchasing programs.

"We believe that it's a number of months (if not quarters) before the Fed will try to use new tools to reverse the impact of excess reserves," he wrote. "We should expect more statements like this as the Fed guides the markets on progress and its intentions."

Hurley will also be watching the economic data front - the consumer price index, jobless claims, foreign purchases of U.S. assets and industrial production, to name a few - in the coming days.

"I think we have more economic news to continue to watch, and that certainly could impact volume," she said.

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