Agencies keep pace with rallying Treasuries, outperform swaps; Freddie Mac supply awaited

By Kenneth Lim

Boston, Aug. 16 - Agency spreads stayed mostly flat on Monday as the market managed to keep pace with rallying Treasuries.

Bullet spreads tightened by about 0.5 basis point at the belly of the yield curve, while the long end narrowed by about 1 bp, said Craig Ziegler, an agency trader at Gleacher & Co.

"Obviously things didn't perform as well as Treasuries, but net-net they did perform a little better," he said.

The outperformance was stronger against swaps, which widened versus Treasuries on the day.

"Swaps widened out today," Ziegler said. "At the long end, 10-years were about 1 to 1.5 bps better than Treasuries, but 4 bps better than swaps."

Another trader said trading volumes were quiet.

"There was decent flow for a Monday in August, but overall activity was pretty quiet," the trader said.

Rush for yields

The trader said investors were buying Treasuries on Monday in anticipation of the Federal Reserve's buying of two- to four-year Treasuries on Tuesday. Agencies benefited a little from those trades as some cash sought better returns out on the risk curve.

"There was certainly a bit of moving out the risk curve," the trader said. "Treasury yields are near historic lows, and at these levels some investors would rather take on a little bit more risk and get maybe 20 bps more in agencies."

Agencies could face some difficulty keeping up with Treasuries on Tuesday, however, when the actual buying of Treasuries takes place, the trader added.

"That's going to be interesting to see what happens," the trader said. "If Treasuries do well, that could put some pressure on agency spreads. If Treasuries don't do well, you might see a bit of money leak out into agencies.

Freddie Mac ahead

Agencies were also tightening after widening for most of the previous week, and Monday could be seen as investors coming back from the low end of the spread range, the trader added.

"It looked like some buying after agencies widened last week," the trader said. "Basically we sort of reached one end of the range and the buyers came back."

The current tightness in agencies is largely linked to the lack of bullet supply at the moment, the trader added.

"Supply is still very, very low, so on a very fundamental level spreads are tight simply because people can't find enough paper," the trader said.

The supply situation could loosen up a little on Wednesday when Freddie Mac announces whether it will issue Reference Notes.

Both the trader and Gleacher's Ziegler said they expected a deal in the three-year sector.

"I think three-years probably makes the most sense for them," Ziegler said. "That's obviously the hot sector, and they haven't come to market with a three-year in a while."

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