Agencies lag Treasuries as yields fall on rise in jobless claims, strong seven-year sale

By Kenneth Lim

Boston, May 26 - Agency spreads widened slightly on Thursday as the market struggled to keep up with falling Treasury yields following another strong government debt auction.

Bullet spreads closed the day about half a basis point wider off Treasuries, an agency trader said.

"Agencies were a little bit squishy today," the trader said.

Callable issuance was slow because the current low coupon levels were not attractive enough for many investors.

The market in general saw only thin trading activity, one market source said.

"The market's starting to wind down," the source said. "The Treasury market has been the center of attraction all week because of the auctions and the news about Europe, so agencies have been taking a back seat to all of these."

The coming long weekend was not helping volumes. Bond markets close early on Friday, and there will be no trading on Monday for Memorial Day.

"Very quiet," the source said.

Yields fall further

Treasury yields put the pressure on agencies Thursday, falling for yet another day to reach a year-low as strong auctions and weak economic data kept investors shedding risk.

The Labor Department on Thursday said jobless claims a week ago rose to 424,000, surprising economists, who had mostly been expecting a drop. The previous week's claims number was also revised higher to 414,000.

The Gross Domestic Product was also maintained at 1.8% for the first quarter. The Street had been expecting an upward revision to 2.2%.

Investors were quick to buy up Treasuries on the back of the weak data, the source said.

"We were really disappointed with the jobless claims numbers," the source said. "We had three weeks of declines in jobless claims, so this was a trend breaker. The data that we've been getting the past few weeks have not been supportive of a strong recovery at all."

Treasuries also got a boost after Luxembourg prime minister Jean-Clause Juncker said the International Monetary Fund may not be able to support the next €12 billion tranche of a bailout program for Greece.

All of that helped to support the Treasury's $29 billion auction of seven-year notes, which sold at a low yield of 2.43%. All three of the Treasury's auctions during the week found strong demand.

The trader said agencies had trouble keeping up with Treasuries as swaps widened. Swaps actually ignored the negative news about Greece, but Treasuries rallied on the news, leaving both swaps and agencies in the dust.

"We just couldn't keep up," the trader said.

The positive news for agencies is that spreads could easily shift back in when the Treasury rally slows.

"I would say it's a directional trade," the trader said. "It would tighten a little bit if Treasuries back up."

Market winds down

Friday could be another slow session for agencies with the market closing early, the market source said.

The market was also not expecting supply after the long weekend, with Freddie Mac likely to pass on its May 31 issuance announcement.

"Freddie Mac just reopened the five-year, so I don't really expect them to come with another deal on the 31st," the source said. "We've seen a lot of passes this year, and it's going to continue because there's just no need for funding."

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