What do you notice here?

Remember when I used the "crowd fleeing a burning building" analogy to describe MBS supply/demand fundamentals? Well the building burning = TSY selling. Once the bond bias shifted from yield curve flatteners to yield curve steepeners and aversion of duration set in again....the MBS crowd went running from extension risk (again). This is a function of the high risk FOMC event next week and $104bn in notes supply... not to mention more volatility which implies a wider range of expected interest rate outcomes in the future. So why risk buying convexity (current coupon MBS)? Why increase extension risk? NOT LIKELY

To keep busy while waiting for Wednesday, fixed income traders will be defensively range trading up until the 2:15 FOMC press release (on Wednesday!).  "Defensive range trading" implies selling into strength and buying on dips (in TSYs). For "rate sheet influential" MBS...bids will pace the directional movements of comparable benchmarks. When TSYs are selling (or just not in rally mode) MBS will get limited bid side interest from investors (because of added duration/extension risk)...this means yield spreads will widen as TSY yields outperform on  a relative basis. When TSYs are rallying, MBS prices will move higher too. The current range we see developing in the 10 yr is between 3.78 and 3.90...day traders will consolidate gains as the 10 yr approaches 3.78 and will look to add to positions near 3.90.

WE NEED VOLATILITY TO CALM. Until TSY selling moderates and a clearer trade bias/range develops MBS investors are highly unlikely to see a broad based shift "down in coupon", the best we would expect to see is speculative pecking at the stack.

What did you notice from the above charts?




2s vs. 10s: 254bps