Sector Update

December 18, 2017



Another week of curve flattening occurred, as investment-grade bond sector yields inside of five years moved higher, while yields edged lower for seven years and longer. The widely expected third 25bp Fed Funds target hike of 2017 provided a push to continue the ongoing yield curve pivot. Five-year Treasury yields hit a new yearly high on Tuesday, 2.173%, while the ten year now rests right at its year-to-date average.

Yields in most other sectors moved a basis point or two less than Treasuries, with a barely discernible trend toward tighter spreads in the short end of the corporate market and for CMOs with average lives less than five years. The opposite occurred for the longer maturities, as the flattening of the Treasury curve narrowly exceeded the shape change in other sectors. These small changes seem especially inconsequential compared to the gyrations in tax free municipal markets. A heavy supply calendar and uncertainty about pending tax codes counterbalanced very strong investor demand for the sector. The most recent week left these spreads much wider, as much as 20bp at the ten-year maturity, more than canceling the tightening of spreads from the week prior.

While not quite as busy as the week prior, last week featured some periods of brisk trading. Particularly busy periods of activity occurred Monday and Friday, an exception to recent norms. Portfolio managers seemed to be in more of a year-end mode, with the potential of lower corporate tax rates after 2017 providing extra incentive to consider selling securities with below market book yields and capturing the known tax benefit of losses incurred during 2017. Duration and sector distribution adjustments also occurred.

The ten-year Treasury finished last week at 2.35%, 2bp below where it started the week and 3bp below the average daily closing yield for 2017. The five-year Treasury finished at 2.16%, 1bp higher than where it started the week and 26bp above the year-to-date closing average.

 





 

Adjustable Rate Mortgage Market Update

Yield spreads for new-issue hybrid ARMs to Treasuries were unchanged last week, lagging the performance of longer duration MBS (which tightened 2 to 3 basis points).  Yield spreads on new issue 5/1s and 7/1s have remained stable since October, despite a selloff on short Treasuries and fixed-rate MBS tightening.

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Agency Market Update

Agency yields were mixed this past week as the curve flattened following data releases and tax reform updates.  The Fed delivered its third rate hike of 2017 and maintained its projections for three rate hikes in 2018.  The Summary of Economic Projections showed upgraded forecasts for GDP growth and lower unemployment, but no change in core inflation. 

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Fixed Rate Mortgage Market Update

Mortgage yield spreads versus Treasuries were mixed last week as curve flattening continues and yield spreads remain historically tight. Mortgage rates rose a couple of basis points, while mortgage applications fell 2.3% on lower purchase and refinance activity. The Refi Index has fallen eleven of the last fourteen weeks and refi activity remains at historically low levels.

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Municipal Market Update

Municipal bond funds reported investors put cash back into funds last week, as weekly reporting funds experienced inflows of $216.923MM in the latest reporting week, after experiencing outflows of $807.203MM the week prior. The four-week moving average was positive at $42.348MM, after being in the green at $92.547MM the week prior.

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SBA Market Update

Activity in the SBA sector was steady last week as the FOMC continued to tighten by raising the Fed Funds Target Rate by 25 bps.  Bank portfolio managers looking for floating-rate exposure have looked to “par” priced SBA floaters to mitigate premium exposure.

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