MBS RECAP: Unfriendly Volatility

At 1284.39, stocks have certainly run their course higher after hitting the technical buying signal at the 1172 pivot. 10yr notes likewise broke 2.32 and are currently at 2.343. At these levels, charts are beginning to look menacing--either exhibiting the signs of a parabolic reversal, or potentially consolidating or "flagging" before moving back in the predominant directions of the past 2 weeks. Time will tell. Maybe even tomorrow will tell! It would sure be a shame to see another historical example of rates dipping into the 3's for only a few fleeting moments, but one has to entertain that that's a risk here. Whether or not it deserves as much consideration as other eventualities is questionable, but it's something to be aware of. Fannie 4.0's are now in line with the same trend of "lower lows" that began yesterday around 10am. Prices have bounced along this same line ever since, most notably just before 11am and just after 2pm yesterday, then again at 9am this morning and in rapid successions over the past hour. Technicals aren't "busted" though... On the afternoon of the 9th, 4.0's formed a massive triangle into these exact levels. MBS have plenty of room in terms of spread vs Treasuries to attempt to hold onto this supportive pivot even if 10yr yields move a bit higher. Whether or not that turns out to be the case may be decided with tomorrow's economic data and potential Euro-zone headlines.

Finally seeing MBS slow down a bit in terms of outperforming Treasuries. If that continues to be the case, MBS could be tied more closely to Treasuries for the rest of the day. Uncertainty reigns supreme though, so we'd advocate more of a "be nimble, protected, and wait, see, respond" type stance versus trying to predict what will happen next. But we can at least entertain possibilities (you know... so as to be better prepared, more nimble, etc...). On the 9th, the S&P closed at 1172.53. Just now, they came within a point of that which is effectively "a touch" in a market that's moved 70 points in 2 days. it's actually a technical touch anyway due to lows from the 5th and highs from the 8th all being in the same general area. If it breaks, we could see some technical buying in stocks, thus pressuring bonds. The 10yr is near a technical barrier of it's own. There's a lot of noise in recent charts, making it hard to specify an exact level, but certainly 3.32 is a candidate for an early warning. 10's have also been contending with a trendline of resistance that has been ascending today with each subsequent "higher low" in yield. Currently, neither of those technicals has broken, but since they "triangle into each other," one of them will have to shortly. Whether or not that means anything remains to be seen, but it could. And that could make things worse for MBS, which have already come off their highs, now down to 104-02. Speaking of technical levels, that's a good one for Fannie 4.0's. Given MBS willingness to tighten today, it may be something they can hold regardless of what stocks and bonds are doing, but that will be a taller order if 10's start moving up into the 2.3's. Another smattering of reprices for the worse is already in the works just on the drop to 104-02.

The 30yr bond auction saw it's biggest miss of estimated yields (as calculated by the auction result vs when-issued) ever. The bid-to-cover was appallingly lower than average and the indirect bidders, normally a 40% taker, comprised less than 10% of today's take-down. It was ugly. 10's shot up quickly to the mid 2.3's, but are now back down to 2.267. All the while, MBS only lost their cool momentarily, and in general have tightened the screws to Treasuries by massive amounts today. Spreads are close to 10 bps better on the day. Stocks have bounced slightly lower, but may threaten to hold supportively at today's previous highs around 1156. 10yr notes face resistance now from an ascending trendline that marks a series of "higher lows" in yield. MBS look capped by 104-15 at the moment, and expecting more tightening to get us through that may be a tall order. Either way, the good news is that bond markets have certainly stabilized, but the drama was sufficient to motivate several reprices for the worse. That's a bit ironic considering MBS are at the same levels now as before the auction.

We'll dig into the details shortly, but the 30yr auction just flopped. Bonds are selling fast. This might settle down, but for now, reprice risk is elevated. Fannie 4.0's lost about 10 ticks immediately on the auction and are now at 104-02.... still on the happy side of a 3 day pivot, and that support may well hold, but reprice risk is elevated just the same.

Despite 10yr yields and S&P's at their highs of the day, MBS remain fairly tightly traded roughly in the middle of their range. There's still plenty of room for spreads to tighten, meaning we could see more relative strength in MBS versus Treasuries, but the level of tightening so far this morning has already exceeded our expectations. Fannie 4.0's are currently 7 ticks down on the day at 104-13. Lender rate sheet offerings continue to be erratic versus yesterday, in most cases based on pipeline control as opposed to outright MBS prices. The 30yr bond auction is coming up at 1pm and could shake things up.

Since the evening of 8/8, we've seen a technical ceiling in spread levels that seems to be acting as sort of a buying trigger for MBS. And at these hours of the morning, such things can benefit both from domestic and overseas money. 10yr notes are up to 2.209 and stocks made it nearly to yesterday's highs but may now be bouncing lower, too soon to tell. Either way, that's a decided move higher in Treasury yields, but MBS are still only down 6 ticks on the day at 104-14 in 4.0's. It doesn't even make sense to look at 3.5's yet. (seriously... 4.0's outtraded them 10 to 1 on Tuesday and 13 to 1 yesterday). If stocks indeed bounce lower, MBS prices may be able to hang on here (reason: a stock bounce lower would likely allow Treasuries to bounce lower, in turn allowing MBS spread levels to stay put or even move higher). If stocks and TSY yields keep moving higher, MBS spreads could get too low/narrow for MBS to be able to hold on to recent resilience.

Take a look at Fannie 4.0's versus 10yr notes in the past hour and change. Treasuries are weaker, MBS are stronger. Volatility is roughly unchanged from earlier this morning, so what's driving the disconnection? In short, spread dynamics. Remember, we in the origination community are unique among MBS watchers as our primary concern is with PRICE ONLY (price up = generally good, down = generally bad for rate sheets). But the broader base of market participants cares almost nil for price compared to how much they care about spread vs benchmarks such as Treasuries and Swaps. The massive "risk-off" trade over the past 2 weeks has seen the spread between MBS and Benchmarks WIDEN aggressively. The wider the spread, all other things being equal, the higher the relative value (there are additional layers of complexity we could get into here, such as re-adjusting that relative value based on prepay assumptions to arrive at an 'option-adjusted-spread' (OAS), but that level of detail isn't necessary to infer that a bit of VALUE BUYING has been taking place in MBS). Simply put, the spreads have gotten so high, that MBS have perhaps begun looking too attractive relative to other fixed-income offerings.