Agency spreads tighten at front end as Freddie Mac skips offering; Fed targets long end

By Kenneth Lim

Boston, Nov. 16 - Agency spreads tightened slightly Monday at the front end of the yield curve as Freddie Mac passed on a calendar offering.

The long end was mostly flat after the Federal Reserve Bank of New York announced a purchase operation in seven- to 23-years.

Volumes in general were light, an agency trader said.

"It's been a dull, quiet Monday," the trader said.

Bullet spreads narrowed by about 1 to 2 basis points at the short end of the curve, the trader said.

"Freddie Mac passed on the issue...so spreads in the short end are performing well," the trader said.

But looking at the tighter swap market, the trader thought that neither the Freddie Mac decision nor the Fed's coupon purchase announcement had much positive impact on the agency market.

"I think for the most part swap spreads are in a couple of basis points across the curve," the trader said. "Agencies have actually underperformed swaps a little bit."

Callable step-ups remain a vibrant segment of the market.

"Step-ups are just constantly being thrown against the wall to see if they stick," the trader said. "Every once in a while you get one that works and it becomes a much larger deal."

"We typically see a lot of bid-wanteds on callables, and we've seen a lot of that today," the trader said.

Fannie Mae will also make an announcement on Benchmark Notes on Wednesday.

"I think the thought is potentially a three-year would be a calendar fit," the trader said.

Freddie Mac passes on issuance

Freddie Mac said it would not issue any Reference Notes on Monday, which had been designated as a possible issuance date on the agency's calendar.

The agency's next Reference Notes announcement date is on Nov. 30.

The move may have helped shorter-term spreads to narrow on Monday because some investors were expecting a deal, the trader said.

"They've been doing a lot lately, I think, but as far as all the commentaries and the thoughts that I'd heard on it, it seemed like everyone was expecting a three- or five-year," the trader said. "Nobody really expressed to me that they though they would pass."

But a New York-based dealer said the pass was not a big surprise, given that Freddie Mac already had a $1 billion reopening of 1.125% two-year Reference Notes on Nov. 4 and has the Nov. 30 announcement just around the bend.

"Even if they did a deal, it probably wouldn't have been a big one," the dealer said. "So no, I don't think anybody would say it came as a big surprise."

Fed to buy at long end

The Fed will buy agency notes due 2016 to 2032 on Tuesday, according to an announcement by the Federal Reserve Bank of New York.

Investors will continue to keep an eye on how much the Fed is buying, the trader said.

"We're keeping an eye on percentages," the trader said. "That's typically where you see the biggest effect of the buybacks. The news that 30% or 40% of how much was tendered was bought back."

The dealer said the last time the Fed bought notes in those sectors, it received a larger-than-usual amount of tenders. Both the percentage that the Fed buys and the amount of tenders it receives will be worth watching, the dealer said.

"If too much is tendered, it could suggest that there's still a lot of selling pressure on those sectors in agencies," the dealer said. "Percentage wise, we're looking for signs of the Fed reducing the amount that it buys as the buybacks enter the final stretch."

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