Sector Update

July 30, 2018

Investment-grade markets reread their script last week, reverting back to behaviors in keeping with most forecasts and trendlines. The US Treasury yield curve shifted upward and flattened slightly, though not by quite enough to offset the anomalous steepening from the week prior. Three-year Treasury yields increased 9bp, while the long end only moved higher by 6-7bp.

The municipal sector greatly outperformed other investment grade sectors last week. Yield spreads versus Treasuries moved tighter for tax-free debt of all terms and structures, with spreads for many issues maturing ten years and beyond contracting 10bp or more versus similar-term Treasuries. Other investment-grade sectors moved in concert last week, with no meaningful relative value shifts other than the more expensive munis.

The pace of activity picked up again last week. Redeployment of cash continued, seemingly without the hesitant behavior many portfolio managers exhibited during much of the last couple of months. Most of the increased activity came from repositioning and restructuring though, with some outright extension swaps used to adjust portfolios that had been allowed to drift shorter through recent inactivity. Intra-sector trades, especially into and out of the municipal sector, also boosted activity in a very meaningful way last week. Sellers of shorter-term municipal debt reinvested in longer munis in some cases, while others redeployed the cash in MBS or other sectors. Meanwhile, longer munis met high demand from investors redeploying proceeds from sales in other sectors as well as from shorter maturities within the sector.

Friday’s five-year Treasury closing yield of 2.84% exceeded the daily closing average so far this year by 18bp and exceeded by 48bp the average for the last year. The ten-year Treasury finished at 2.96% Friday, 12bp higher than the year-to-date average and 34bp above the average for the last year.


Adjustable Rate Mortgage Market Update

Demand picked up in ARMs last week, as investors purchased new-issue ARMs.  The basis has tightened in July, which has richened relative value versus fixed-rate MBS.  Furthermore, negative net issuance resulting from the flatter curve should be supportive of spread tightening in ARMs.  Gross supply for July is only up to $1 billion, a significant decrease relative to the $3.4 billion issued during the seasonal peak last July.

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Agency Market Update

Treasuries sold off substantially last week. The curve flattened by one basis point as the spread between 2- and 10-year Notes declined to 29 basis points.  Agency bullet yields moved in line with Treasuries.  Two-, three- and five-year Agency bullet yields increased by 8 basis points to range between 2.73% and 2.93%.  Ten-year bullets cheapened by twelve basis points to 3.31%.

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Fixed Rate Mortgage Market Update

Mortgages were mostly unchanged last week among the modest sell-off in Treasuries, continuing to preserve the meaningful outperformance from the previous week. The favorable macro environment, with yields being largely range bound and implied volatility hovering close to multi-year lows, has acted as a tailwind for the mortgage sector.

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Municipal Market Update

Prices on municipals were weaker on Monday and Tuesday, as yields rose across the curve. On Wednesday prices were steady across the curve. On Thursday prices weakened again across the curve. On Friday prices were steady across the curve. Volume for the week is projected to be $4.4B, which is below last week’s $6.6B in revised issuance.

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SBA Market Update

SBA activity continues to be focused on floating rate equipment pools offered at par and premium pricing as yields on SBA floating rate pools moved higher over the last several weeks.  Investors are also active in DCPCs, which are trading at the widest yield spreads in over a year.

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CMO Market Update

Investors continue to favor front cashflows with WALs between 3-5 years and extension to the 6 to 7 years if rates increase markedly. For the month of July, investors continued to favor fixed-rate CMOs and the percentage of floating CMOs purchased decreased from the previous month.

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