Agency spreads narrow on strong payrolls data; Freddie Mac five-years tighten on debut

By Kenneth Lim

Boston, July 7 - Agency spreads continued to narrow on Thursday as yields rose on the back of stronger-than-expected private payrolls data.

The market easily absorbed Freddie Mac's $4 billion offering of five-year notes on the day's strong buy interest.

Bullet spreads closed the day a touch narrower versus Treasuries across the board.

"Our customer flow has been skewed toward better buying," one trader said.

The callable market saw decent activity on the higher yield levels, which allowed investors to buy paper with more attractive coupons.

Yields climb

Yields rose on Thursday as the ADP National Employment Report of private payrolls showed an increase of 157,000 jobs in June, well more than the 68,000 gain that was expected by the Street.

Meanwhile, the Labor Department reported that new jobless claims declined by 14,000 in the week ended July 2.

The positive labor-related data raised hopes that Friday's key employment situation report would show an improvement in the labor market.

"I think early in the week the shorts were shaken out and they jumped right back in based on today's ADP number," said Guy LeBas, chief fixed income strategist at Janney Montgomery Scott.

The market was focused on Friday's numbers, however, and a flurry of trading is expected when the data is released in the morning, he added.

Agency spreads could also be getting some support from reports of a proposed plan to merge Fannie Mae and Freddie Mac and shift their portfolios onto the government's balance sheet, essentially nationalizing the housing agencies. The plan has not been tabled in Congress, and LeBas thought that it was unlikely to pass, even though the plan reportedly has bipartisan support.

Freddie Mac sells five-years

The strength in agencies certainly helped Freddie Mac to sell $4 billion of new five-year Reference Notes on Thursday.

The 2% notes priced at a spread of 32.5 basis points versus Treasuries and were last traded at a spread of about 32 bps over Treasuries.

Price talk was at 33.5 bps over Treasuries.

"The new Freddie Mac priced in response to tighter swap spreads, and they're actually cheaper at Libor levels than initially advertised," the trader said.

The notes were sold at 99.628 to yield 2.077%.

Barclays Capital Inc., Citigroup Global Markets Inc. and UBS Securities LLC were the lead managers.

The size of the deal put early pressure on spreads, even though demand was widely known to be strong during marketing.

"The initial kneejerk selling that we saw yesterday was repeated today when they saw the size at $4 billion, although I'm not sure why," the trader said. "The old Freddie Macs went out to 22 bps then came back to 21 bps."

The deal benefited from strong buying interest throughout the day.

"Any selling has been followed by the same if not more amount of buying," the trader said.

LeBas noted that the deal got an above-average level of interest by foreign central banks, who took 46% of the deal.

"It seems to be very popular among non-U.S. investors," he said.

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