June 10, 2019
It was a bit quieter week in the financial markets last week as yields continued to grind lower, particularly on the front end of the curve. Much of the bond market activity appeared to be driven by the latest trade concerns with Mexico, a slew of commentary from Fed voters regarding monetary policy, and then concluding the week with a rather disappointing jobs report on Friday. With the market continuing to price in better chances of rate cuts going forward, yields declined by double digits on the front end of the curve and approximately 7 basis points for 3-5 year terms. As sovereign debt securities continued their recent rally, both agency bullets and callables resumed their widening trend. Yields on 3- and 5-year agency bullets ended the week down 5 basis points and now yield 1.90% and 1.96%, respectively. The market is now pricing in just over two 25 basis point cuts by the end of the year (as judged by Fed funds futures contracts). The spread between 2- and 10-year Treasurys increased to ~24 basis points and that portion of the curve is now the steepest it has been since the end of November. The 3-month to 10-year portion remains inverted and now stands at approximately -23 basis points.
Spreads on agency bullets moved another basis point wider for maturities of 1 year and longer. Callable agencies continued to widen last week and are now trading at the widest spreads since March. As highlighted in the charts below, less-structured callables still look attractive on a spread basis (in gray, right axis); less-structured 3-year callables are still at some of the widest spreads since the Financial Crisis, and 5-year callables are at the widest spreads since the beginning of the year. This likely has a lot to do with expectations of falling rates going forward, as investors would require greater compensation to assume the risk that these bonds will be called. Agency bullets appear relatively cheap given the wider spreads, but absolute yields are down so sharply that many investors will likely be looking for greater returns in other sectors.
The below table reflects last week’s total issuance and call activity across the primary GSE issuers. Agency issuance was elevated again at approximately $9.6 billion, the bulk of which was comprised of Freddie Mac paper. Call volume picked up to $3.4 billion and should continue to be heavy over the coming weeks and months. As mentioned last week, 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 the Federal Home Loan Bank announced issuance of a 2-year Global deal that priced at +6 basis points, its first Global issue since a 5-year deal in February. This Tuesday, Fannie Mae has its upcoming issuance slot for Benchmark securities, and Freddie Mac has an issuance slot this Thursday. None of the major GSE issuers have issuance dates scheduled for next week.
Senior Vice President, Investment Strategies
Vining Sparks IBG, LP