Agencies firm, escape profit taking as Treasuries rise; FHLB could bring front-end deal

By Kenneth Lim

Boston, Feb. 14 - Agency spreads held firm on Monday in the face of a slight decline in Treasury yields as investors remained upbeat about the market.

Bullet spreads closed about flat on Monday, an agency trader said.

"Agencies were kind of in a confirming day," the trader said. "The agency market didn't really move dramatically, but there was very little selling interest."

Callable activity was relatively quiet because dealers were still working through inventory from the previous week. But the recent richening in bullets could aid the Street in moving paper as callable yields become relatively more attractive.

"I won't say we have a lot of issuance, but we saw some issuance," the trader said. "I would say maybe only a billion to a couple of billion issued today. I think dealers are a little long on paper, but I think the bullet market will help them out."

Volumes were not extremely strong, however.

"I won't say customer flows in the Street are necessarily strong, but it's mostly just the Street guys trying to get themselves squared," the trader said.

Flat seen as positive

Just the fact that the market did not widen out on Monday was good news for investors, the trader added.

"I think after such a strong end of the week last week, today by not giving it up, by not going down, that fact that we're not seeing profit taking in any dramatic fashion is very positive for the market," the trader said.

Agency spreads narrowed over the past week, initially as Treasury yields climbed, and then after the Obama administration sent a paper to Congress that, among other things, stressed the Treasury's support for existing Fannie Mae and Freddie Mac obligations.

The paper, which laid out the White House's plan to eventually wind down Fannie Mae and Freddie Mac but deferred on a decision on how to replace the agencies, was somewhat reassuring for investors who were wary of surprises.

"It's just business as usual for the GSEs," the trader said.

The trader was skeptical that the covered bond market would be an effective replacement for the agency market in the current state. Covered bonds can be too costly to be attractive for issuers and buyers, the trader said.

"You still hold the mortgages on your balance sheets, and that requires reserves, and until that's addressed, you're not going to see much issuance," the trader said.

FHLB ahead

The market could also see some issuance this week with Federal Home Loan Banks expected to make a calendar announcement on Global Notes on Tuesday.

The agency is expected to bring a front-end deal to the market because its last Global issuance was in November. FHLB skipped its December and January slots, and its next opening is not until March 16.

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