MBS RECAP: Building On Yesterday's Gains, Coming To Crossroads

MBS Pricing Snapshot

In and of itself, the 30yr Bond Auction was below average, coming in with both weaker demand and a higher-than-expected stopping yield. That accounts for the "quickness" of the sell-off that we're now seeing in response, but the magnitude of the selling has merely been moderate thus far.

Chalk that up to the fact that the auction wasn't quite so bad when viewed in the context of a decent afternoon of trading for bond markets yesterday as well as a strong hour or so leading up to today's auction, the mildly negative stats are forgivable.

It looks like markets are doing a fair enough job of forgiving as MBS have held previous pivot-based support and Treasuries have returned merely to the middle of today's trading range, and may already be showing signs of support.

In fact, as this alert was being written, we've seen a quick move off the higher yields in Treasuries and MBS have returned to their highs of the day. Risks are tilted toward positive reprice potential despite the initial post-auction volatility.

Treasury Auction Jargon Primer

As is the case with 10's, 30yr auctions also tend to perform better in "Reopenings" vs "Refundings." For longer term Treasuries, there are 3 auctions that fill the same coupon. The current 30yr coupon was created by the 8/9/12 auction--a "refunding." There has been one "reopening" of that coupon with the 9/13/12 auction and today's auction is the 2nd and final reopening.

The average bid-to-cover for reopenings has been upwards of 2.6, with September's coming in at 2.68. The last refunding, by comparison, was only 2.41, dragging the overall recent average down to 2.55.

More important than the bid-to-cover ratio is where the auction "stops" in terms of the awarded yield vs the market's running expectations of that yield as measured by "when-issued" trading.

Historically, there's a better than 50% chance that a reopening stops through at a lower-than-expected yield (which is a good thing for bond markets), but we would note that we haven't seen BOTH reopenings 'stop-through' in a year and only 3 times in the past 3 years.

If today's 30yr auction is anywhere near as strong as yesterday's 10yr auction, Treasuries would likely have what they need to break into the green on the day, which could suggest a break of yesterday's highs for production MBS if they don't get there on their own, before 1pm! Fannie 3.0s have been rallying off a supportive bounce at 10:15am and are currently at session highs.

Much like yesterday, a lender or two might see this as grounds for positive reprices, but like yesterday, the majority would wait for more pronounced movement in one direction or another after the auction.