Bond Expert: Thursday Wrap

Prices of Treasury coupon securities posted mixed results, with most benchmark issues posting modest gains while the 30-year sector suffered sharp losses as the Treasury auctioned $ 14 billion 30-year bonds. (I think it is wild and preposterous that it has a 3 ½ percent coupon. If that bond does not spend the significant portion of its life trading at a deep discount, then the economy of the industrial world is in deep trouble.)

The yield on the benchmark 2 year note slipped 4 basis points to 0.87 percent. The yield on the 3 year note also fell 4 basis points and finished at 1.27 percent. The yield on the 5 year security declined 4 basis points to 1.71 percent. The yield on the 10 year tumbled 5 basis points to 2.73 percent. The yield on the bond increased 3 basis points to 3.48 percent.

The auction result was a Dutch treat and the bidders bought bonds 5 basis points cheap to market levels when they were awarded at 3.54 percent. The market quickly slipped close to that levels and rebounded to close at levels through those which prevailed in the cash market at auction time.

The market generally follows the indirect bidding category in the auction results and uses that as a proxy for central bank issuance. In this instance the direct bidding category is informative. Direct bidders are non primary dealers submitting bids for their own account. The direct bid category in this auction won (if that is the proper word) nearly $2.3 billion of bonds. The conventional wisdom is that it is one very large institution with a grim macroeconomic view. If that is correct, those bonds are not likely to come out for some time. They are probably tucked away until the Apocalypse arrives.

The bond trader with whom I spoke noted that the refunding pretty much ended on a happy note. There was some sloppiness today but the market quickly recovered. He suggested that participants pay close attention in the days ahead as there will be another bond auction in 30 days. He and I believe that has not happened since the 1980s when the Treasury issued quarterly 20-year bonds.

One Long Bond trader with whom I converse noted that some of the anomalies in his sector are gradually cleaning up. He noted that that Aug 2023 /Nov 2024 spread had been inverted by 40 basis points in December and that spread is normalizing and trades currently at 20. He thinks that it should trade close to even, so it is about halfway home.

The 2 year/10 year spread narrowed a basis point to 186 basis points.

The 2 year/ 5year/30 year spread richened to 93 basis points.

Retail sales surprised by posting a solid gain with most everyone anticipating a modest decline. Economists at UBS noted that the seasonal adjustment factor is very challenging as one moves from the holiday month of December to the non-holiday month of January.

The same economists searched for pockets of strength and noted that average hourly earnings have climbed 3.9 percent YOY. In addition, Social Security recipients received their cost of living adjustment and that gave them some added firepower.

MBS, Swaps and CMBS

Mortgages are about a tick wider to Treasuries today. There was decent origination in 4s and 4 1/2s and the up in coupon trade was in vogue.

Swap spreads were mixed. The 2 year spread is unchanged at 63 ¼ basis points. The 5 year spread is a basis point wider at 68 ¾ basis points. The 10 year spread has narrowed 2 ¼ basis points to 22 ½. The 30 year spread is in the financial twilight zone. It narrowed 4 3/8 basis points to a very ludicrous Negative 29 3/8.

CMBS took a good drubbing today. AAA tranches of various vintage widened 50 basis points to 60 basis points. Some pointed to problems at Hartford (HIG) while others thought the spread widening reflects the malaise afflicting the market following the announcement of the no-plan plan yesterday.

Agency Paper

Agency spreads are tighter by 3 basis points in the 2 year sector and one basis point in the 3 year sector. Five year spreads are unchanged and 10 year spreads are about 5 basis points tighter.

The Federal Reserve announced another dollop of largesse and it will purchase agency paper maturing between February 2010 and January 2011.

The Home Loan priced a 2 year at T + 78.

There are several factors contributing to the spread tightening. There is a post Geithner-speech syndrome. The lack of specifics in his speech widened spreads. Some still believe that there will be some governmental deus ex machina which will lug agencies onto the balance sheet of the Treasury.

The logic in that case is that there is very little chance to solve the myriad of problems confronting the system without a solution to the GSE problem. And that would be a fast solution.

The 2 year Home Loan led to some congestion and supply disorders and with out of the way spreads can do better.

And the Federal Reserve purchases, while widely anticipated, will lighten the burden of dealers and support the market.

Corporate bonds

Corporate bonds are a tad weaker today. Industrial names and telecom names are unchanged to about 5 basis points wider. Financial company names are 5 basis points to 15 basis points wider.

One salesman with whom I converse regularly suggests that the softness is nothing more than a pause in the gallop tighter of corporate bond spreads. He suggests that the credit market has decoupled from the equity market and that softer equities drive investors to the relative safety and assured returns of high grade corporate paper.

He notes the strength of the rally over the last month with a couple of examples he has observed in dealing with his clients.

General Dynamics (GD) has a bond which matures in January 2014. In mid December that security traded at a 365 spread. Currently the bond is quoted 190/180.

Similarly, Con Edison (ED) has outstanding the 4 7/8 2013. (I didn't record the month.) About a month ago that bond changed hands about 280 cheap to Treasuries. Today it trades around 200.

The bottom line is that for quality paper there are still buyers even though spreads have had a tremendous stretch.

Yesterday Marathon Oil (MRO) brought 5 year and 10 year paper at T+ 4 7/8. Paper traded as tight as 450 and has since softened somewhat to around 460.

The IG 11 is 194/196.

Comments

[SW Richmond]

Thanks for a very thorough analysis!

2009 Feb 12 08:38 PM

[spope33]

I have a question for John -- are FICO strips trading like other agencies now, or have they decoupled. I have been staring at bond engines and not seeing a pattern, other than that they can be picked up cheap due large spreads.

2009 Feb 13 01:06 AM

[mauijeff]

"And the Federal Reserve purchases, while widely anticipated, will lighten the burden of dealers and support the market."

The Fed buying debt is an obvious manipulation. The Fed is an
EXTRA-NATIONAL banking cartel. So what is really going on? If nations that have money buy bonds that's good. When the Fed buys bonds that's bad? We are so conditioned for market management that we actually care what the handlers are doing with money. Everyone knows how markets should react, but we always have guess what the masters will do. It's tiring and it indoctrinates us all the the Feds whims.
Buying gold and gold related issues sends a clear message and gold is not just profitable, but it's a moral imperative. If the banksters take your money from bonds or equities it's covered up. But when they attack gold it's a naked power pay. Buy gold and stand up you sheep.

2009 Feb 13 01:23 AM

[kelm]

Great information John. I really enjoy these daily updates.

Everyone should take note that this auction went very well at the same time the Chinese, through multiple government officials, were telegraphing their growing alarm with our fiscal policies. I do not believe this is coincidence. They are diplomatically trying to tell us "we will not drop you but we are alarmed at what you are doing" while ensuring that they don't rock the auction boat. That is, they want the opportunity for dialogue first.

Specifically:
1) They chose this week to state they need guarantees from the US government that their bond holdings would not degrade in value due to our fiscal policies

2) A senior Chinese Regulatory official stated that they would continue buying bonds but hate doing so because they know our policies will threaten their holdings

3) They forbade their banks at the last minute from participating the AIG asset sale. Having been burned on their past purchases of US private assets they are not touching anymore US financial institutions.

I'll be analyzing this more fully for my readers in the next few days.

2009 Feb 13 10:47 AM

[notary02]

Why are their CEO and officers selling this stock and a Hedge Fund if it is so stable?????

2009 Feb 16 09:02 PM