Prices of Treasury coupon securities surged today in response to actions of the Federal Reserve System to alleviate some of the credit pressures associated with the credit crisis. As I discussed in an earlier posting the Central Bank announced that it would begin buying GSE debt as well as MBS guaranteed by the GSEs. The Federal Reserve System will acquire $500 billion plain vanilla MBS and $100 billion of GSE direct issues.The news sparked waves of buying especially in MBS. The buying in agencies and mortgages led to buying of other assets as a hedge for sales of MBS and agencies.
The yield on the 2 year note dropped 13 basis points to 1.15 percent. The yield on the 3 year note dropped 12 basis points to 1.38 percent. The belly of the curve was the superstar of the day, the yield on the 5 year note tumbled 21 basis points to 1.99 percent and the yield on the 10 year note passed through a mini interest rate cycle as its yield plummeted 25 basis points to 3.07 percent. The yield on the Long Bond fell 16 basis points to 3.62 percent.
The 2 year/10 year spread collapsed to 192 basis points from 204 basis points.
The 2 year/5 year/30 year butterfly improved 17 basis points to 79 basis points as the belly outperformed the wings.
The Treasury auction sold $26 billion 5 year notes today and it was one of those Dutch auctions which redounded to the benefit of the taxpayers. The auction average was 2.11 percent and that was fully 4 basis points better than where the issue was being exchanged in the marketplace prior to the auction. Foreigners demonstrated that they have not lost their appetite for US bonds as they took down 37 percent of the auction.
Some market participants with whom I speak view today’s action by the Federal Reserve as quantitative ease and the passing (for now) of the funds rate as a barometer of monetary policy. One investor mentioned that the funds rate has been well below the target rate for most of this month anyway and had already lost its place in the Fed’s firmament.
Central bankers have often spoken of what they could do in a crisis such as the current one. Chairman Bernanke made himself famous before he was Chairman when he noted in a speech that the Federal Reserve would always cling to the right to drop money into the system from helicopters. Some would argue that today’s action constitutes a measure of that medicine.
The Federal Reserve and academics have said that the Federal Reserve could fight a credit crunch by buying large blocks of long risky assets. Today’s action falls in that category.
They have stated that they could blow up their balance sheet and they have done that with a vengeance.
They can also attempt to jawbone rates lower and I think they have engaged in forms of that.
The only policy prescription of which they have not availed themselves is to announce that the funds rate will remain low for the foreseeable future. I would not be surprised to see them do that at the December meeting.
This is somewhat off topic but I guess its fits under the general rubric of monetary policy. The dollar has begun to soften versus the Euro and versus the pound. One trader with whom I speak regularly suggested that the UK and the European community would not countenance any significant appreciation of their currencies and he expected that those countries would be forced into easing policies to keep the dollar from giving too much ground.
Mortgages are finishing the day 2 ticks weaker to swaps. Negative convexity raised its ugly head at prices well above par brought sellers to the fray.
Two year swap spreads are tighter by 8 ¾ basis points at 97 ¾. Five year spreads are tighter by 12 ¼ basis points and are 87 ¼. Ten year spreads are narrower by 8 ½ basis points at 14 ½ and 30 year spreads are better by 9 ½ basis points and are NEGATIVE 43 ½.
Two year and three year agencies are about 15 basis points tighter and 5 year and 10 year paper is about 35 basis points tighter.
