MBS RECAP: 8/8/2011

If it was up to us, we would have priced once this morning, conservatively, and left it at that. But that may not be the case everywhere. Pre-10am rate releases are less at-risk, but with MBS down almost 3/8ths of a point from the highs, it's possible we see a reprice for the worse or two. Stocks bounced off the ugliest lows with the S&P up to 1151 now from lows in the 1120's (for reference, the day began at 1199). 10yr yields haven't responded much, though they've also moved higher, now at 2.37. Fannie 4.0's are down to 102-28. No specific event driving the correction. Combination of technical resistance (support in stocks), and bond market official close already in the books (saw an uptick of volume into 3pm and trailing off since then). Bottom line is that the moves down in MBS could look "big and fast" on any other day, but an exceedingly nominal little sputter from a tired engine on a day like today.

Today is, by far, the biggest single day of losses for the S&P both in terms of outright amount and percent change since the "crashiest" days of late 2008. The .VIX is up by over 40%. The Dow is down over 600. Bonds had been largely resisting the steep pace of the stock sell-off, but at current levels, Treasuries have inched lower in yield, with 10yr notes breaking the lows from 2010's aftershock of the 2008 crash. On the long term charts, today firmly establishes itself AT LEAST as another aftershock. In that sense, it makes sense that those 2008 yield lows seem to be the resistance point for 10yr yields and have been acting as such despite accelerating stock losses. We're about to talk about MBS, and we warn you, the gains do indeed seem pathetic versus Treasury gains, but remember that this spread widening was universally expected to follow a potential Sovereign downgrade. It has nothing to do with the GSE Downgrade, simply that MBS are not as good of a "risk-off" trade as Treasuries. And so it is we fine Fannie 4.0's up only 17 ticks (0-17) versus 10yr notes' up 57 ticks in price (1-25). If it's not bad enough that MBS lag into improvements, they've been showing a propensity to keep much better pace into any selling. This is also, sadly, to be expected in a full-fledged "risk-off" trade. Waiting and seeing continues to be the order of the day. if 10yr notes hold mostly steady around these 3.35 levels, and MBS hold mostly over 103-00, any secondary folks who aren't huddled in fear under their desks might put out a reprice. And although that would be a reprice for the better as things look right now, things can change quickly.

(Reuters) - Italy's opposition accused Prime Minister Silvio Berlusconi on Monday of surrendering sovereignty to the European Central Bank after he pledged to speed up reforms in return for help in facing a growing market crisis. The ECB agreed on Sunday to buy Italian and Spanish bonds to calm markets after a huge selloff last week sent yields climbing to record levels for the euro zone's third and fourth largest economies, threatening to unleash an uncontrollable spiral. The move, which followed pressure on Rome to pick up the pace of its deficit cutting measures, came after Berlusconi pledged late on Friday to bring forward the government's target of balancing the budget by a year to 2013. Antonio Di Pietro, head of the opposition Italy of Values party, said Berlusconi had been "dragged by the ear by the EU and international economic institutions" to the news conference where the measures were announced. "Berlusconi should perform a service to his country for the first time and go," he said. "Palazzo Merkel", read an editorial headline in the left-leaning La Repubblica, referring to Berlusconi's office in Rome, Palazzo Chigi, and German Chancellor Angela Merkel. How effective the ECB's actions will be remains to be seen. Italian bond prices, after initially rallying, fell back on lack of confidence about the economy, pushing yields on them up to 5.3 percent by Monday afternoon.

(Reuters) - Announcements should be expected this morning about more knock-on effects to corporations from S&P's decision to downgrade the United States' credit rating, the head of Standard & Poor's sovereign ratings said on Monday. David Beers also told Reuters Insider television that the U.S. outlook could be raised to stable if the U.S. deficit-cutting deal is fully implemented and the Obama administration ends the Bush tax cuts. However, Beers said there was a one-in-three chance the U.S. rating could go lower again within six to 24 months. He added that S&P would be watching to see if the U.S. Congress follows through on the budget consolidation process it committed to while the course of interest rates and the so-far subpar economic recovery would also be factors. "What may affect whether the rating falls again is first of all the underlying economic story," Beers said. "This has been a fairly lackluster recovery, and so we're watching that very closely because of course it also will influence the future path of public finances." (Reporting by Emily Flitter, Ashley Lau and Burton Frierson; Editing by James Dalgleish)

(Reuters) - U.S. Treasuries soared on Monday in their first New York trading session since the Standard & Poor's downgrade of the United States as stocks slid on fears that the ratings action would ripple through the corporate and financial sectors. Standard & Poor's downgraded the U.S. credit rating to AA-plus from AAA after markets closed on Friday, citing a lack of confidence that government leaders could get the budget deficit under control and shape a long-term plan for U.S. finances. Wall Street stock indexes were down more than 2 percent as the rating cut amplified worries the economy was poised to slide back into recession. Perhaps ironically, investors chose the liquidity and perceived safety of Treasuries due to uncertainty about what the move meant for stocks and other kinds of assets that rely on economic growth. "We're the least dirtiest shirt in the bag," said Joe Larizza, director of governments and agencies trading at Vining Sparks in Memphis, Tennessee. Treasury debt prices rose by more than 2 points in the 30-year bond and a point each in seven-year notes and benchmark 10-year notes. The 10-year Treasury note was last up 1-21/32 in price and yielding 2.38 percent, down from 2.57 percent late on Friday.

The longer end of the Treasury yield curve is today’s paradoxical hero. Their credit quality was downgraded, but they’re killin’ it. 5's, 7's and 10's are all about 15 bps lower right now. That's a point and a third gain in price for 10yr notes. MBS by comparison aren't even a third of a point better. This is one of the most severe example of MBS underperformance in recent memory. But it's not a surprise to capital markets. Why? Although it's quickly growing to buzz-word status, a majority of today's spread dynamics is attributable to the "risk-off" trade. Normally, MBS are close enough to the "risk-free" end of the spectrum that they benefit from flight-to-quality demand to almost the same extent as Treasuries. But when things get really panicky, the fact that MBS are simply "more risky" than Treasuries means they start to get some of the same treatment as other riskier assets and greatly underperform Treasuries. The real-time, real-world example of this is playing out absolutely beautifully at this very moment. MBS had been at their very worst levels of the day versus treasuries, but as TSYs began to pull back from their best levels, and stocks began to rise, RATHER THAN DO WHAT THEY NORMALLY DO, which is to move in the same direction as treasuries, MBS jumped up quickly. The excessive "risk-off" demand eased up slightly, and suddenly, MBS look mighty attractive. keep in mind, that, that's RELATIVELY SPEAKING. MBS will end the day much worse than TSYs, but if 10yr notes are in the 2.4's as opposed to 2.3's, expect MBS to be TIGHTER (i.e. underperforming less). Fannie 4.0's lost more than half of the day's gains just after TSYs hit their best levels. They found some support at a pivot point between the early morning highs and late morning lows and are now just off their highs of 103-08, currently at 103-05. Expect lender pricing to be highly defensive of this market volatility.