Five Year Note Auction

At 100PM (about 2 hours and 20 minutes from this moment) the US Treasury will regurgitate $ 39 billion 5 year notes into the waiting arms of investors and dealers.

The issue looks cheap on the yield curve. Bill O’Donnell of RBS Securities in his morning missive noted that the 2year/5year/10 year spread was 21 basis points as recently as July 13. As we speak that spread (using the WI issue) is about 45 basis    points.

Similarly, on July 22 the 5 year note was 15 basis points rich to Europe. Today the issue now trades 10 basis points cheap to Europe for a swing of 25 basis points.

I think the auction will go well because of the relative value considerations. However, I believe that the market has limited upside because the Treasury will return tomorrow with $ 28 billion 7 year notes. Unless equity markets hit an airpocket there is not much reason for debt markets to do appreciably better until the 7 year note is out of the way.

The level of activity is light today and central bankers seem to be on the sidelines.

Morning Misses

Several points which I failed to note in my opening post:

The Chinese stock market took a 5 percent tumble overnight as two large lenders have acted to restrict the availability of credit.

The Federal Reserve will release its Beige Book today.

The Open Market Desk will conduct a buyback in the 2019 through 2026 sector.

Bond Market Open July 29 2009

Prices of Treasury coupon securities have posted modest gains (mostly) in overseas trading. The yield on the 2 year note is unchanged at 1.12 percent. (We are using the new 2 year note and the roll is about 4 basis points.) The yield on the  3 year note edged lower by a basis point. The yield on the 5 year note slipped 2 basis points to 2.58 percent. The yield on the 7 year note declined 2 basis points to 3.26 percent. The yield on the 10 year note dropped 3 basis points to 3.66 percent. The yield on the 30 year bond fell 3 basis points to 4.52 percent.

The 2 year/10 year spread is 254 basis points this morning. Roll adjusted that is 3 basis points narrower.

The 10 year/30 year spread is 86 basis points which is 2 basis points narrower.

The high point of the day will be the offering of $ 39 billion 5 year notes to global investors by young and clean shaven Timothy Geithner and his minions. We shall see if demand emerges for that issue. My guess is that there will be demand for the issue and that one should not extrapolate the result of the 2 year note auction yesterday as meaning a poor result today.

At 830AM New York time (is there any other time?) the Treasury will release the June Durables Goods report. The measure gained 1.4 percent in April and 1.8 percent in May. The consensus foresees a decline of 0.6 percent this time.

Economists at UBS see a decline of 2.0 percent. Those economists note that a decline of that magnitude would result in a gain for the quarter of 3.2 percent annualized. Not much improvement but pretty robust when assayed against the 38.8 percent decline in Q1 and the nearly 46 percent decline of Q4 2008

Bond Market Close 07/28 /09

Prices of Treasury coupon securities posted a truly bifurcated result today with yields on the shorter maturity benchmark issues rising while longer dated issued posted gains.

The yield on the 2 year note climbed 4 basis  points to 1.08 percent. The yield on the 3 year note increased 5 basis points to 1.65 percent. The yield on the 5 year note increased one basis point to 2.60 percent. The yield on the 7 year note posted a 2 basis point decline to 3.28 percent. The yield on the 10 year note slipped 3 basis points to 3.69 percent. The Long Bond was the superstar of the list as its yield tumbled 6 basis points to 4.57 percent.

The 2 year/10 year spread narrowed 7 basis points to 261 basis points.

The 10year 30 year spread compressed 3 basis points to 88 basis points.

The 2year/5year/30 year butterfly cheapened to 45 basis points.

The breakeven spread on 10 year TIPS narrowed 6 basis points to 186 .

The 30 year breakeven spread is 232 basis points.

The Treasury conducted an auction of $ 42 billion 2 year notes today and the response as viewed through the prism of auction results was less than festive. There was a tail of 2 basis points. (In bond market jargon the tail at an auction is the spread between the level at which the issue was trading in the market immediately prior to the bidding deadline and the level which ultimately cleared the market.)

One trader observed that this was the biggest tail on a 2year note auction since last December. I will trust him on that front.

I do think that there is a market related reason for the tail. I think that many investors did not wish to miss the auction and preferred not to be aggravated by the bidding process.

Consequently, there was significant buying of the WI issue yesterday and today in advance of the auction. I think that took the short base out of the market.

If there truly had been a debacle here and if dealers and investors had bought many more bonds than they needed,then the long end would not have traded as well as it did following the auction. if dealers were long they would have played defense by tatooing the 5 year note and 7year note which are scheduled for tomorrow and Thursday.

Economic data which printed today was mixed. The Case Shiller housing data indicates more stability in the housing market.

On the other hand the Conference Board confidence number declined for the second month in a row and showed a consumer deeply concerned about the state of the labor market.

San Francisco Fed President Yellen spoke today but did not break any new ground. She noted that the recovery would be slow but when the time arrives to tighten she said that the Fed would do the right thing and would not repeat the policy mistakes of the Arthur Burns and William Miller regimes.

I hope she is right. Actually, I hope that she is wrong ass traffic to the blog is highly dependent on market volatility. A strong whiff of inflation wafting through the economic precincts would be good for traffic!!

Agency Market

Agency spreads are 2 basis points to 3 basis points tighter across the curve today. One seasoned trader ( and friend of the blog) noted that the street still feels short from the Open Market Desk purchase Friday in the 2 year through 4 year sector.

The trader noted that in the past the street would run the market up in front of the Fed purchases and then those who failed to make sales would pressure the market afterwards as they sought to unload unpurchased inventory.

That is not the case this time as the market is still well bid.

There has been active buying by end users in the 2 year through 3 year sector and by money funds in the less than one year arena.

Two Year Auction

In about an hour the treasury will sell $ 42 billion 2 year notes. Central banks have been chunky buyers of the issue the last two days and the forward roll has narrowed from nearly 5 basis points to 4 1/4 basis points as a result.

If you believe Bernanke that financing will remain at zero for an extended period,then these are a steal as there is a ton of carry and roll down.

I am told that the issue at 60 basis points is on the cheap side versus the year bill and it is on the cheap side versus 3 year notes.

I also believe that the street will use this as an anchor issue versus the 5 year note and the 7 year note.

This one should go real well.

Musical Interlude: Sinatra

As a child of the 1960s I was addicted to the music of that era and it still comprises the bulk of my listening.

I never listened very much to Frank Sinatra and figured that was something for my Italians relatives who were a generation ahead of me.

Al Kooper has been around for years. He was in the original incarnation of Blood Sweat and Tears. He is probably most famous and most remembered as the guy who played the organ on Bob Dylan’s “Like a Rolling Stone”.

I  visited Kooper’s website several years ago and he has listed there  his personal list of the top 100 recordings of all time. His number one is the incredible “Pet Sounds” by the Beach Boys. I was very surprised that his numero dos was Sinatra’s “Songs for Swingin’ Lovers” with which I was not familiar.

So on Kooper’s reco I purchased “Songs for Swingin’ Lovers” and eventually several other Sinatra hits. It is very different than the 60s stuff which I  favor but Sinatra is an amazing stylist with a clean crisp voice.

Give it a try as I think you will enjoy.

Health Care Reform Minutiae

Here is an interesting exegesis of health care reform from Fortune Magazine.

This particular piece is reasonably negative and I will be more than happy to present a friendly piece if someone sends me one. I want to be fair and balanced like Bill O’ Reilly,

Swaps and Some VOL

Swap spreads are unchanged to a tad tighter this morning. Two year spreads are 1/2 basis point tighter at 41. Five year spreads are unchanged at 43. Ten year spreads have narrowed a basis point to 22 . Thirty year spreads are etherized against the sky and are 1/2 basis point tighter at NEGATIVE 21.

Vol is a tad softer with the three month /ten year ATM swaption straddle at 622 this morning . It closed at 625 late yesterday.

Thoughts on the Strong Treaury Market Opening

The 10 year note is putting in a solid performance this morning and is rebounding nicely from yesterday’s close.

I think there are several reasons for the recovery. First of all the markets are very very thin and illiquid. That is a constant refrain from traders and salespersons with whom I speak. It does not take much volume to move the market.

Yesterday also marked the cheapest closing level on the 10 year note in five weeks and I would suspect that some looked at those levels as attractive.

We also held the 3.75 percent level yesterday and that probably gave some courage to play.

Finally, the 2year/10 year spread at 268 basis points is nearly as wide as it has ever been since the dawn of time. The only time these levels have been exceeded is in June when the spread traded in the 280s for the briefest period of time.

The curve is so steep that I would also expect that some pure day traders are using that steepness as a way to bet against the 2year note auction later today. There thinking would be that $ for the day the issuance of $42 billion 2 year notes will clog that sector and lead to its underperformance.

Bond Market Open July 28 2009

Prices of Treasury coupon securities have posted modest gains in overnight trading. The yield on the 2 year note slipped one basis point to 1.03 percent. The yield on the 3 year note also declined a basis point and rests at 1.59 percent. The yield on the 5 year note dropped 2 basis points to 2.57 percent. The yield on the 7 year note declined 3 basis points to 3.26 percent. The yield on the 10 year note slumped 2 basis points to 3.69 percent. The yield on the still investment grade 30 year bond dropped 3 basis points to 4.60 percent.

The 2 year/10 year spread narrowed a basis point to 266 basis points.

The 10 year/30 year spread is 91 basis points .

The 5 year weakened a basis point versus the 2 year and 30 year as the butterfly is flapping its wings this morning at 49 basis points.

The Treasury will auction slightly more than an odd lot of 2 year notes today when it offers $ 42 billion 2 year notes. I think that the auction will go well. With the forward roll the WI issue is trading well behind one percent. Foreign central banks have manifested an insatiable appetite for the 2 year and three year part of the curve and with the Bernanke reaffirmation last week of a zero percent funds rate for the rest of our natural lives I think that central banks will continue to show up for this party.

I also think that it is an easy issue for dealers to purchase. One can buy this auction and bang out the 5 year and 7 year issues against it. Those issues will auction tomorrow and the following day and the simplest trading strategy is to sell what the Treasury is selling before they do.

There is some economic data to chew on today.

The Case Shiller report on home prices should manifest a 17.9 percent YOY decline.

The Conference Board confidence survey should show consumers losing some faith as the consensus anticipates a small decline to 49 from 49.3.

The Richmond Federal Reserve publishes a manufacturing index and it should post a small gain to + 8 from + 6.

As an aside, I am always confused by the English word manufacturing. It denotes something assembled in an industrial process with the aid of machinery. The Latin roots of the word are manus (hand) and the verb facere (to make).

So manufacturing (literally) means hand made. Go figure!!!

Bond Market Close July 27 2009

Prices of Treasury coupon securities tumbled today but as the market declined the price action and the intra curve dynamics was someone confounding.

The preponderance of coupon supply this week is in the shorter end of the yield curve. The only issuance in the longer end was the TIPS auction today (about which I will say more later).

With supply concentrated in the shorter maturities one would expect those issues to underperform on the curve. That is not the case today. The 2year/10 year curve steepened a basis point to 268 basis point.

The 10 year/30 year curve is quite instructive as it is closing at 90 basis points after opening the day at 88 basis points.

The 2year/5 year/30 year spread began trading at 45 basis points this morning and is back to 50 basis  points currently.

The yield on

The market was rife with rumors of a large seller of off the run long bonds and the price action suggests that this actually did happen,particularly as the 10 year/30 year spread widened 2 basis points.

I have also hear that current levels in the 2 year note and 3 year note continue to tickle the fancy of central banks as those clients were buyers of the benchmark issues as well as off the runs in each of those sectors.

Separately, if you wish bullish fodder the 10 year note breached the psychologically important 3.75 barrier this morning but was able to close around the 3.72 level as the higher yields (for now) lured buyers to the fray.

The 20 year TIPS came and went easily. There was about a one basis point tail which is negligible for that security. In post auction trading the breakeven widened about two basis points.

I do watch the 10 year TIPS and that is closing near its recent wide. It rests at 192 basis points. From mid 2004 until August 2008 the breakevens on 10 year TIPS traded in a broad range between 225 and 275. In June of this year as the market broke down the breakeven touched 205 before racing back to 153 basis points.

In my opinion the TIPS market feels as though it is setting up for a test of the bottom of that 225 to 275 range.

The yield on the 2 year note increased 5 basis points to 1.04 percent. The yield on the 3 year note also increased by 5 basis points to 1.60 percent. The yield on the 5 year note climbed 5 basis points to 2.58 percent. The 7 year note was at loser this day,too, as its yield increased 7 basis points to 3.29 percent. The yield on the 10 year note climbed 6 basis points to 3.72 percent and the Long Bond yield soared 8 basis points to 4.62 percent.

Spread Potpourri

Swap spreads remain mixed to slightly tighter. Two year spreads are 2 basis points tighter at 41 1/2. Five year spreads are also 2 basis points tighter at 43 1/2. Ten year spreads are unchanged at 23 and 30 year spreads are unchanged at NEGATIVE 20 1/2.

Agency spreads are unchanged to a tad tighter (one basis point) across the curve. The level of activity is muted and one trader noted that the market is in vacation mode.

Mortgages are about unchanged to swaps.

The three month/ten year ATM swaption straddle is 625 basis points.

One derivative salesman observed some modest servicer paying early in the day and little else since.

TIPS Result

Here are the results of the TIPS auction.


The treasury will auction $ 6 billion 20 year TIPS at 100PM New York time. The auction is a reopening of an outstanding issue.

Buyers of TIPS focus on the real yield. The range for the year has been 1.95 to 2.60 and the current 2.30s is mid range. One dealer (from whom I am deriving much of what you are reading here) suggests that we are mid range versus Europe and somewhat rich to the UK.

The same dealer notes that inflationary expectations have increased of late and that the increased demand for protection has offset the usual concession for supply. The writer noted that the demand has manifested itself in the long end and there is better value down the curve.

In the long end the issue has cheapened up to the issues which surround it.

I think that the auction will go well today. There are only $ 6 billion and it would not take much of an effort to stop the issue close to the market. I would expect a small tail but no debacle.

Separately, William O’Donnell at RBS Securities (the firm formerly known as Greenwich Capital) noted that the treasury recently sent a questionnaire to dealers which suggested to him that the Treasury was considering increasing issuance of TIPS.

The Treasury is bumping upp against levels in the regular coupon offerings at which significant increases in size become difficult and investor’s appetites will be challenged. If the Treasury increased TIPS offerings sizes that would relieve the Treasury from offering unmanageable size in the nominal bond offerings.

I believe however that the dealer community recently suggested to the Treasury that the TIPS program should be curtailed as the bonds are an island of illiquidity in the Treasury market. It is my understanding that these bonds trade somewhat actively in the runup to the auctions and then for a week or so following as some distribution occurs. For the remainder of the quarter they are a backwater.

One of the problems is that there is no other TIPS market (other than other sovereign names) . I do not know of any corporate issuance and consequently they are difficult to hedge.

The salient point is that if the Treasury is planning to turn to TIPS for an increasing share of its funding, they are in worse shape than I would have believed.

Military Industrial Complex Needs Working Capital

Northrop Grumman to Sell $750 Million of Notes in 2-Part Issue
2009-07-27 13:32:32.889 GMT

By John Detrixhe
July 27 (Bloomberg) — Northrop Grumman Corp. plans to sell
$250 million of 5-year notes and $500 million of 10-year bonds
as soon as today, according to a person familiar with the
offering who declined to be identified because terms aren’t set.

MBS and Vol

In the early going mortgages are unchanged versus swaps. There is a strong bid for lower coupons in anticipation of a large month end index extension trade.

Some one just priced the three month /ten year ATM swaption straddle at 621 1/2 .

Swap Spreads

Swap spreads are mixed. Some are flat and some a tad wider but with the Treasury market in the throes of a debacle that is not the case in the swap market…….yet.

Two year spreads are flat at 44   1/2. Five year spreads are flat at 45 1/2. Ten year spreads are a basis point wider at 24 and thirty year spreads are a basis point wider at NEGATIVE 19 1/2.

Bond Market Open July 27 2009

Prices of Treasury coupon securities are suffering the slings and arrows of outrageous fortune as well as a malaise contracted from the belief that staus quo ante is in the process of returning to the global economy and global financial markets. Today also begins a period of record issuance by the US Treasury and the confluence of those factors has driven bond yields higher in overnight trading.

The yield on the 2 year note has climbed 3 basis points to 1.03 percent. The yield on the 3 year note has climbed 5 basis points to 1.60 percent. The yield on the 5 year note has also climbed 5 basis points and rests at 2.58 percent. The yield on the 7 year note has jumped 6 basis points and begins the New York trading day at 3.28 percent.The yields on the 10 year note and the yield on the Long Bond have each risen 4 basis points to 3.70 and 4.58, respectively.

The 2year/10 year spread has widened a tad to 267 basis points.

The 10 year/30 year spread is unchanged at 88 basis points.

And in an indication that supply is taking a harsh toll on the belly of the yield curve, the 2year/5 year/30 year butterfly has narrowed to 45 basis points.

Equity markets around the globe are ebullient, enthusiastic and energized and in thrall to the notion that all is well and if it is not well it will be soon. Bloomberg carried a story that the Japanese stock market had risen for a ninth consecutive day. That is the longest such winning streak since 1988.

I also observed a story that the stock market in China has doubled from its low. (When I was younger and with much more hair than I had now I owned a copy of Quotations from Chairman Mao. I do not recall him commenting on the stock market in that little red book.)

Pre market trading indicates that the US equity market will open with modest gains, too.

I was speaking with a former customer last week who offered the proposition that the equity market rally (globally ) is a massive short squeeze. The squeeze springs from a massive outright short in equities as well as shorts versus other sectors of the capital markets. The rally will prove unsustainable as investors realize that global economic recovery will be quite slow and there will not be a V but a W.

The supply tsunami of which I have written begins today with bill auctions and the reopening of 20 year TIPS. The TIPS auction will total just $ 6 billion and for that small size should go well. I do not follow the spread on 20 year TIPS but do follow the 10 year breakeven spread. That spread is currently close to 190 basis points and on the expensive side of its recent range.