Sector Update

August 27, 2018

Yield declines last Monday held up through small intraday swings for the balance of the week. Yields fell throughout most of the investment grade debt market, with very small declines for the shorter maturities and more significant moves lower for the long end of yield curves. The US Treasury yield curve flattened as it fell, with the 20yr maturity declining 6bp and the 2yr maturity only moving lower by one basis point. The spread between two-year and ten-year Treasury yields compressed to 19bp last week, the narrowest level since August 2nd, 2007 as the trend toward a flat curve continues.

Credit risk outperformed optionality last week. Corporate debt yield spreads tightened versus Treasuries amidst what felt like a bit of risk-off market sentiment. Municipal markets finished mixed, holding on to the tightening of yield spreads that occurred during the last month. Mortgage markets finished with wider spreads for longer duration securities and unchanged spreads for 15yr MBS and shorter duration structured securities. GSE debt spreads finished unchanged for non-callable issues while callable issues, especially those with maturities beyond five years, pushed wider by 2bp or so.

Activity trends from the prior two weeks mostly continued into last week. A slight pick-up in cash redeployment from mortgage related securities and agency debt occurred. Municipal debt markets might have done the same but the volume of extension trades and other portfolio adjustments probably did more to support the significant activity in that sector. And while the municipal sector continued to comprise a large share of the portfolio manager inquiries and analytic needs, the pace of such activity in other others sectors increased last week.

Friday’s five-year Treasury closing yield of 2.71% exceeded the daily closing average so far this year by 4bp and exceeded by 28bp the average for the last year. The ten-year Treasury finished at 2.81% Friday, 3bp below the year-to-date average and 16bp above the average for the last year.

Adjustable Rate Mortgage Market Update

In the latter part of last week, the ARMs sector was very quiet, as seasoned selling and August origination died down.  In total, approximately 1.5 billion in secondary ARM supply has come to market in August, around a billion of which came last week.

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Agency Market Update

The curve flattened last week with the 2-year/10-year gap narrowing to 20 bps.  An inverted yield curve is usually a harbinger of recession, so the flattest read in 11 years is notable.  Agency yields were mixed on the week with modest increases on shorter-term maturities and small declines for longer-term maturities, resulting in a slightly flatter curve.

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Fixed Rate Mortgage Market Update

MBS underperformed Treasuries last week as the Treasury curve continued its flattening trend with the 2’s/10’s narrowing from 25 bps at the beginning of the week to just 19 bps by week’s end.  The 2-year Treasury increased 1.4 bps while a rally on the longer end of the curve sent the 10-year down by 4.7 bps.  Yield spreads for 15-year MBS yield spreads to Treasuries were unchanged while spreads for 30-year MBS to Treasuries widened by 1 to 2 bps.

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Municipal Market Update

Prices on municipals were mixed on Monday, as bonds maturing 10 years and in were steady, while the long-end strengthened. They were mixed again on Tuesday, as the long-end was steady, while bonds maturing 10 years and in weakened. On Wednesday and Thursday they were steady across the curve.

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SBA Market Update

The SBA has announced and the Federal Register now reflects a slight tightening of the maturity bands for new SBA pools issued subsequent to October 1st. By pushing the maximum maturity difference to 95% from 94%, the SBA brings cash flows on pools in close alignment with cash flows on the underlying loans, a stated objective of the SBA.

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CMO Market Update

VADM spreads remain relatively wide, especially on an OAS basis. Investors are considering these in conjunction with front/short cashflows. Recall, VADMs are constructed to limit extension risk.

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