Bond Expert: Thursday Wrap

Includes: RBS, TLO
by: John Jansen

Prices of Treasury coupon securities have taken a rather traumatic tumble this day as Tim Geithner conducted a 30 year bond auction and the invited guests failed to show up for the party. As I related in an earlier post the auction was a debacle and the price action since the result printed is worrisome.

The auction came with a 9 basis point tail. If you bought those bonds you would think that you had a huge cushion. That is not the case as all who own the bonds are now underwater.

This result is one of the reasons I dislike the bid to cover ratio statistic.The cover here was 2.14 versus a recent average of 2.05. That stat always fails to note where the bids lie. In this case they are miles from the market so who cares what the ratio is.

The yield on the 2 year note climbed 3 basis points to 0.99 percent. The yield on the 3 year note is 4 basis points higher at 1.47 percent. The yield on the 5 year note is 9 basis points higher at 2.14 percent. The yield on the 10 year note jumped 11 basis points to 3.29 percent. The yield on the Long Bond exploded 17 basis points to 4.27 percent.

The yield curve has exploded also with spreads dramatically wider. The 2year/10 year spread widened 8 basis points today to 230 basis points. That is a new wide for this cycle.

The 10 year/30 year spread traded at 100 basis points and currently rests at 98 basis points. That traded yesterday morning at 90 basis points.

The 2 year/5 year/30 year butterfly is 98 basis points. I think early this morning I had clocked it at 90 basis points which is support.

I am not sure what one does here. I have cogitated on trading from the long side but there are several factors which militate against that course.

The price action is ugly. There will be bonds for sale at every level above the market. The street and investors are long and very wrong.

Tomorrow is unemployment Friday. I am not sure if I want to carry a position through that number.

It is also rate lock Friday and for about ten Fridays in a row the market has chosen to sell off and has done that without the ungodly long positions which it is lugging at the moment.

For all of those reasons I think I will remain flat and take another look after the Labor Report tomorrow.

Separately, one trader has emailed that low coupon mortgages have sold off quite hard this afternoon and have given up about 8 ticks versus the 5 year Treasury.

My friend who dabbles as a technician sees support for the 10 year in the mid 330s. He is quite concerned that it did not have even a cup of coffee in the 3.25 percent neighborhood.

Corporate bonds are feeling the tiniest bit toppy.

MBS and Swaps

Mortgages are about 4/32 tighter to swaps.

The Federal Reserve has been a buyer of 4 1/2s and a buyer of middle of the coupon stack rolls.

Money managers have been better buyers of 5 1/2s and 6s.

Swap spreads have reversed course and are now mostly wider on the day.

Two year spreads are 1 3/4 basis points tighter at 44 1/2. Three year spreads are 1/2 basis points wider at 45 3/4. Five year spreads are 1/2 basis points wider at 51 1/2. Seven year spreads are 1 1/2 wider at 27 3/4. Ten year spreads are 4 basis points wider at 13 1/2. Thirty year spreads are unchanged at NEGATIVE 39 1/2.

My best source on the swap market has observed mostly receiving throughout the day. There was a wave of receiving after the auction results. He has not observed the subsequent paying which would have driven spreads wider.

Given the extent of the move, someone has sweaty palms and is paying.

Agency spreads (from 2:15pm)

Agency spreads are tighter across the curve. Two year spreads are about two basis points tighter. Five year spreads are 2 basis points tighter and ten year spreads have narrowed by 3 basis points.

The Federal Reserve has announced that they will purchase agency paper tomorrow and will buy bonds which mature between Nov 2015 and July 2032.

One analyst notes that the last two weeks represented a unique period in which the Treasury was issuing massively and the GSEs issued nada.

That reverses the next two weeks as the Treasury takes a brief hiatus and the GSEs come to market. The analyst with whom I spoke counsels that investors should be taking some profits on agency paper and seeking alternatives.

He noted that sovereign and supra paper is quite cheap to agencies. By way of example RBS (NYSE:RBS) just sold $7 billion of 3 year paper which the Queen of England vouchsafes is quite safe. (It is guaranteed by the UK in case my attempt at very dry humor falls short.) It trades around T+125. Three year agency paper trades around T+ 36.

That seems like a compelling place to park some money after the long run in agencies.