Bond Expert: Monday Wrap

Prices of Treasury coupon securities are posting very small mixed changes today amidst extremely light trading volumes in the Treasury market.

The market opened with a early bid as a small risk aversion trade appeared to be developing. (See crumbling commodities and stronger dollar for evidence of that.) The bid faded with the failure of the stock market to stage a full scale retreat, and the early price gains proved fleeting as traders focused on this week’s supply.

One friend of the blog noted that last Thursday at 11:45AM EST volume in the market was $238 billion. Last Wednesday at 1:32 PM EST volume was $215 billion. And today as he and I were chatting at 3:10PM New York time volume was a puny $234 billion.

I think that light volume has traders leaning on the offered side and intermittently spanking the bid. Ergo, slightly lower prices as traders search for levels which will attract buyers.

The yield on the 2 year note is unchanged at 0.99 percent. The yield on the 3 year note is unchanged at 1.55 percent. The yield on the 5 year note has increased a basis points to 2.46 percent. The yield on the 7 year note has climbed 2 basis points to 3.12 percent. The yield on the 10 year note also rose 2 basis points and rests at 3.48 percent. The yield on the Long Bond is in that same 2 basis point club and it is 2 basis points higher at 4.24 percent.

The 2 year/5 year/30 year spread is 31 basis points. That began trading this morning at 32 basis points but even that move reflects a cheapening of the belly versus the wings.

The 2 year/10 year spread is 2 basis points higher at 249 basis points.

The 10 year/30 year spread is unchanged at 76 basis points.

Last week the Treasury announced that it will mature the Special Purpose bills which it had issued which allowed the Federal Reserve to mange its balance sheet and liquidity. The Treasury will not roll those bills over as it attempts to deal with a looming debt ceiling problem.

However, the maturity of those bills will flood the banking system with cash. When the Treasury sold those bills to investors it received cash. The Treasury deposited the funds with the Federal Reserve into a checking account which it maintains with that august institution. That very action drained reserve from the banking system.

Now that those funds will return to the banking system, the Federal Reserve confronts the problem that it will be adding far more liquidity to the system than it probably intended. The impact on the financial markets is the same as if the Federal Reserve had bought that amount of coupon securities.

At the last FOMC meeting the Committee listened to a staff discussion regarding exiting the massive increase in the size of its balance sheet.There were discussions about massive term repo and taking term deposits.

Sources in the street tell me that the Fed has intensified conversations with dealers regarding reverse repo and how very large operations would be carried out and if they could be performed with efficiency. The Zero Hedge blog pointed out in a posting at its site that nearly $200 billion of these bills will roll off over the next several weeks.

Maybe all of the discussions about reverse repo were in preparation for this event.

A more interesting approach (from the point of view of blog traffic) would be for the FOMC to say that it is going to reduce its purchases of MBS . That would create an earthquake in that market and would inject some needed volatility into the bond market.

I doubt that it happens that way but it is nice conjecture.

Corporate bond spreads are essentially unchanged this day and the main focus of participants is once again supply.

One portfolio manager commented that new issuance was rather heavy for a Monday. In another instance, a syndicate desk operative suggested that the pace of issuance by necessity would slow from the torrid pace of last week but would remain rather robust.

Another pointed out that some companies will want to issue before quarter end and others will want to bring deals as we are about to enter the blackout period for Q3 earnings releases.

There were three key issues today.

Burlington Northern (BNI) brought $750 million 7 year notes and price talk was 125.

Ohio Power was offering 12 year paper at T+ 200.

GATX (GATX) was selling $300 million 5 years with spread talk of T+ 325.

Most participants reported that the supply was moving quite well and portfolios still had cash to spend.

Comments

[LKofEnglish:]

railroads. interesting.

Sep 21 04:28 PM

[Mad Hedge F...:]

nbc A number of readers have asked me to come up with a safe, high yielding investment in which to hide out in case the equity markets swoon again. That means they are looking for a security that offers a high fixed return, denominated in a strong currency that will benefit from future upgrades that will boost the principal over time. All of that is another name for the Invesco PowerShares Emerging Market Sovereign Debt ETF (PCY). The fund has 40% of its assets in bonds issued in Latin America and 31% in Asia, with the bulk of the maturities exceeding ten years. The two year old fund now boasts $340 million in market cap and pays a handy 6.42% dividend. This beats the daylights out of the nine basis points you currently earn for cash, the 3.40% yield on 10 year Treasuries, and still exceeds the 6.42% dividend on the iShares Investment Grade Bond ETN (LQD), which buys predominantly single “A” US corporates. The big difference here is that foreign bonds are issued in strong foreign currencies instead of weak dollars, and have a rosy future of further credit upgrades to look forward to. It turns out that many emerging markets have little or no debt because until recently, investors thought their credit quality was too poor. No doubt a history of defaults in Brazil and Argentina in the seventies and eighties is at the back of their minds. With US government bond issuance going through the roof, the shoe is now on the other foot. A price appreciation of 125% over the past year tells you this is not exactly an undiscovered concept. Still, it is something to keep on your “buy on dips” list.

Sep 21 11:33 PM