July 29, 2019
With Federal Reserve officials having formally entered the pre-meeting blackout period on monetary policy communications, last week the Treasury market was largely left to trade off economic data releases. The data mostly came out on the stronger side of market expectations and sovereign debt sold off on the week. Treasury yields ended Friday 3 to 5 basis points higher for maturities of 5 years and in. Despite the recent solid data, investors are still expecting the Fed to lower rates at their meeting that concludes next Wednesday—the market is currently pricing in an 80% chance of a 25 basis point cut according to Fed funds futures. Yields on 3- and 5-year agency bullets each increased by 2 basis points and now yield 1.89% and 1.94%, respectively. As measured by the spread between 2- and 10-year Treasurys, the yield curve flattened by another 4 basis points and ended Friday at 20 basis points.
The most prominent theme so far in 2019 has been the abundance of call volume due to the sharp decline in market rates since November of last year. Given the plethora of call volume and the fact that portfolio managers are now left to reinvest at levels often below their overall portfolio yields, investors would be prudent to consider the primary interest rate exposure of the entire balance sheet before reinvesting proceeds from called bonds. Given the historical implications of an inverted yield curve, and with the FOMC all but certain to cut rates this week, bullet structures may be a better fit because they outperform callables in falling rate scenarios. Some middle ground can be found with more highly-structured callables with longer lockout periods.
The below table reflects last week’s total issuance and call activity across the primary GSE issuers. Call volume was basically flat at nearly $7 billion last week and will likely continue to be elevated with rates at current levels. As mentioned in previous Sector Updates, portfolio managers can go to the Client Portal on the Vining Sparks website to view updated cash flow projections for any callable bonds that may be rolling off soon.
Last Wednesday Fannie Mae passed on its Benchmark issuance slot but did announce a $2 billion 18-month SOFR-indexed floating rate note at SOFR + 4. Freddie Mac passed on its issuance slot today just as it has all year. The Federal Home Loan Bank has an upcoming Global announcement date next Tuesday, August 6th.
Senior Vice President, Investment Strategies
Vining Sparks IBG, LP