Agencies widen as flat industrial production, drop in home construction push yields down

By Kenneth Lim

Boston, May 17 - Agency spreads eased out slightly on Tuesday as Treasury yields continued to fall on weak housing data.

Bullet spreads widened a touch across the yield curve on Tuesday, said Mary Ann Hurley, vice president of fixed income trading at D.A. Davidson & Co.

"I would call it a couple of basis points wider," she said.

Trading volumes were thin with buyers reluctant to put any money into the market amid the rally in Treasuries.

"I think a lot of people like the market but they don't like the levels," Hurley said.

The callable market was also relatively quiet as falling yields dampened demand for new deals.

"Some of the deals are definitely moving, especially the ones with more call protection, but a lot of paper sitting out there...is just not moving, and is consequently very, very cheap given the rally in Treasuries," Hurley said.

Exacerbating the lack of demand for new callable paper are expectations that yield levels could fall even more.

"People expect 10-year rates to be closer to 4% at year-end...and you have a lot of people who are touting higher yields of late, yet yields continue to go down," Hurley said. "So people consequently say, well, I'm waiting because these people in the know are going to be right in the long term."

Yields drop further

Yields on Tuesday continued to slip as the day's economic data added to fears of a sputtering economic recovery.

The Federal Reserve reported that industrial production was flat in April, disappointing the Street, which had been forecasting a 0.4% increase.

Meanwhile, housing starts in April fell 10.6% on a seasonally adjusted annualized rate of 523,000 units, suggesting that the housing market was still struggling to recover. Economists were expecting a 568,000 pace of construction.

The poor numbers piled more pressure on yields, which were already depressed by persistent worries about Greece's debt crisis.

"What's behind the low Treasury yields is weaker economics data...and no supply either," Hurley said. "That's pushing up agency prices as well and lowering agency yields, although spreads versus Treasuries have widened a little bit."

The relatively stronger economic recovery seen in the last quarter of 2010 does not appear to have carried over into 2011 and is fueling a new round of flight-to-quality trading, Hurley said.

"We certainly know that the strength that we saw in the fourth quarter did not follow through to the first quarter," she said.

Waiting for the big pullback

Despite the poor data, the market appears to be reluctant to buy unless yields are more attractive, Hurley said.

"That's pushing a lot of people to the sidelines," she said. "If we open up a little bit lower in price, people might buy it. But when there's any pullback, they say, well, I'll wait for another 5 basis points, and it keeps going."

The fact is that it is difficult for investors to be excited about the market at such rich valuations, she added.

"There's a lot of paper out there, but people just want more yields," Hurley said.

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.