Agency spreads tighten on yield hunting, Fed operation; FHLB new three-years tighten on debut

By Kenneth Lim

Boston, Sept. 10 - Agency spreads continued to tighten Thursday as investors chased after yield and Federal Home Loan Bank System had a strong $3 billion offering of Global Notes.

The Federal Reserve Bank of New York also gave the market a boost after it announced that it will buy agency paper around the five-year sector.

Bullet spreads in the two- and three-year sectors were about 0.5 to 1 basis point tighter, said Michael Skinner, agency trader at Wall Street Access. The five-years did the best on the back of the Fed purchasing announcement, contracting by about 3 to 4 bps.

"Overall spreads held in pretty good despite the Treasury rally," Skinner said. "Five-year has been the strongest performer on the day."

The agency market's strong performance this week is partly because of investors "who think the stock market won't perform as well for the rest of the year [and] are trying to grab some yield," Skinner added.

"I think we've got a tug of war coming in, between stocks and bonds," he said. "Yields have dropped considerably but the stock markets have performed really well also."

FHLB deal narrows on debut

FHLB on Thursday priced $3 billion of new 1.625% three-year Global Notes wider than price talk for a spread of 30 basis points over Treasuries.

The notes were sold at a yield of 1.734%. Price talk was at 28 bps over Treasuries.

Citigroup, JP Morgan and UBS were the lead managers, with HSBC as the senior co-manager.

FHLB is a government-sponsored enterprise that provides members with access to funds for mortgage credit to homebuyers.

The deal was oversold, according to the agency.

Domestic investors took 73% of the offering, with 7% going to Europe and 4% to Asia. Investment advisers and fund managers bought 49% of the notes, followed by financial institutions, which took 15%, and central banks, which took 13%.

The new notes ended about 0.5 bps tighter, Skinner said. They were seen bid at a spread of 29.5 bps and offered at a 29 bps spread at the close.

"Heard the deal went fairly well," he said.

The offering was not a surprise for Skinner, who noted that FHLB was "due for either a two- or three-year" deal.

"There was an open spot on the calendar, and from a financing point of view it made sense," Skinner said. "That sector was fairly rich...it just fit in a lot of different ways."

He added that the deal may have benefited from one big order.

"I had heard that there was one large buyer...I can't verify that, but it would somewhat make sense," he said. "A lot of times with these new issues you get flippers...I think a lot of the deal was put away. That's positive for spreads, one reason why I think the front end has been supported here."

The Fed's purchasing program, which this month was expanded to include on-the-run securities, may also have helped.

"With the Fed announcing they would now buy on-the-run issues, some investors may also think that there is a good shot the Fed may come back in a week or two and buy back some of this issue at a tighter spread," Skinner said.

Fed to target five-years

The Fed will buy agency securities in the four- to six-year sectors on Friday as part of its weekly open-market operations.

The securities being targeted mature in 2013, 2014, 2015 and 2016.

The weekly purchasing should continue to provide support to the market like it did with the five-years on Thursday, Skinner said.

"As they said in the most recent Fed minutes, they said they're going to continue the process," he said.

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