Posted
The unshakable uneasiness regarding the growing
government debt load and the US credit rating continues to cast a dark cloud
over the bond market...all while stock traders are enjoying a prolonged period of
over-eager economic exuberance. Yesterday, while GM inched closer to bankruptcy
and the S&P reported that home prices were showing little signs of
stabilization (see below), the equity market found some post weekend vitality in WAY
better than expected consumer confidence data (54.9 after 40.8 in April). The
Dow rallied 196 points (2.37%) to 8473, while the NASDAQ moved 58.42 points
higher (3.45%) and the S&P rose 23.33 points (2.63%) to 910.33.
Regarding the consumer confidence data....although
10.2% of the surveyed consumers said they believed their income would increase
in upcoming months (8.3% in last read).... only 2.3% of consumers said they
were planning to buy a home....down from 2.6% in April. The expected lack of housing
demand should have weighed on financial markets....as housing must stabilize if
asset deflation is to decelerate and bank balance sheets are to be appropriately mended.
(The S&P/Case
Shiller Home Price Index data release which indicated that home prices had
fallen 18.7% in the last 12 months...S&P Index Chairman stated that "
declines in residential real estate continued at a steady pace into
March". All 20 metro areas are still showing negative growth rates...with
9 out of 20 metro areas having record declines)
Bond market participants continued to price
in a bit of "reality" yesterday.... $101bn in supply this week and $65 billion in
two weeks....that's a lot of coupons for an already oversaturated marketplace
to absorb. Early in the session TSY traders covered some short positions
(slight early morning rally) before the WAY BETTER THAN EXPECTED consumer
confidence data sent the 10 yr TSY note 10bps higher to 3.54% by close. On
the day...the yield curve moved steeper by 12 bps to 263 bps....as measured by
2s/10s.
Mortgages on the other hand had an dull
day...from a trading perspective at least. Volume was below normal with the
Federal Reserve being the only buyer of quantity. Most accounts sat on the
sidelines...happily watching prices cheapen...waiting for a change in fixed
income sentiment....searching for the right re-entry point. The primary
mortgage market was not so lucky though...as reprices for worse were widespread. Since
last Thursday your rate sheets have lost around 125 bps.
Today we continue to battle debt supply and
the continued notion of a more optimistic economic tone. The TSY will auction
$35bn 5 yr notes at 1 pm after the National Association of Realtors releases Existing
Home Sales data at 10AM (expecting 4.66 mln vs. previous 4.57 mln). (FHFA Home
price index at 10am too....ugh). The stock market is looking to carry on its
"warm and fuzzy" feelings after yesterday's WAY better than expected
Consumer Confidence print while Treasury traders remain extra attentive of
their open short positions...looking to cover into any mounting momentum as
sellers still control the market. There is indeed still a defensive bias in the
fixed income marketplace as the Treasury bubble, the US credit rating, and the "ghost
of inflation yet to come" combined with "economic optimism" are wreaking
havoc on the yield curve.
Extension risk is now the big focus in MBS
world...
When benchmark Treasury rates rise, the expected
life of cash flows of "out of the
money" (at par or below par) MBS coupons grows longer. The farther out of
the money an MBS coupon is... the more it's duration (life) will EXTEND when
benchmark rates rise. This occurs because borrowers backing those MBS pools
will have no reason to refinance if their rate is below current market. This
means "current coupon" MBS investors are then STUCK in an investment
that is paying less than what the market is offering!!!
Plain and Simple: If benchmark interest rates
move higher, funds can be reinvesting at current market for a higher yield and
more return. Because the holder of MBS coupon can't call the debt due (only a borrower has call option on their
mortgage) they will be stuck in an investment that is UNDERPERFORMING.
Hence...stay away from anything extension risk related...stay away from
"rate sheet influential" MBS coupons.
At this point everyone wants to know WHAT,
WHEN, HOW, and IF the Federal Reserve is going to flatten the yield curve.
Until then...the Fed is going to be left to their lonesome to fend off
originator supply offerings...
PS...we are watching servicer hedging strategies for a sign of weaker "rate sheet influential" MBS prices to come
MBS QUOTES
Loan Applications Fall 14.2% in Week Ending May 22
2s/10s: 258.87
bps
EFFECTIVE FED
FUNDS: +0.01 to 0.18 from
0.17
LIBOR FIXINGS
O/N LIBOR: +0.0312
to 0.2625
from 0.2313
1 MONTH: +0.0025 to
0.3187 from
0.3162
3 MONTH: +0.0100 to
0.6737 from
0.6637
6 MONTH: +0.0525 to 1.2700
from 1.2175
1 YEAR: +0.0762 to
1.6287 from
1.5525
Secondary Marketing Managers and Capital Markets Desks, if you are interested in subscribing to the same fixed income and mortgage market data we use:
.