MBS MID-DAY: Morning Weakness Moderately Recovered

MBS Pricing Snapshot

- Richmond Fed Manufacturing -11 vs +7 previously
- 'Shipments -15 vs +11 previously

Market Reaction: This report is not typically a market mover, but much like the Richmond Fed index in July 2012, this one was bad enough that we can't rule out a positive impact for bond markets and a negative impact for equities. In other words, if it did anything, it helped slightly.

Manufacturing activity in the central Atlantic region declined in July, according to the most recent survey by the Federal Reserve Bank of Richmond.* Shipments, new orders, backlogs, and capacity utilization fell this month. Vendor lead-time remained virtually unchanged, while finished goods inventories rose more quickly. On the employment front, hiring and the average workweek flattened. Average wages rose more slowly than in June.

Looking ahead six months, manufacturers were optimistic about business. Expectations were for stronger new orders and shipments, along with a rise in capacity utilization. However, hiring expectations were muted and expected changes in the average workweek remained moderate. In contrast, producers looked for stronger wage growth and they also expected to increase capital expenditures in the months ahead.

U.S. house price appreciation continued in May 2013, rising 0.7 percent on a seasonally adjusted basis from the previous month, according to the Federal Housing Finance Agency (FHFA) monthly House Price Index (HPI). The May HPI change marks the sixteenth consecutive monthly price increase in the purchase-only, seasonally adjusted index. The previously reported 0.7 percent increase in April was revised downward to a 0.5 percent increase.

The HPI is calculated using home sales price information from mortgages either sold to or guaranteed by Fannie Mae and Freddie Mac. Compared to May 2012, house prices were up 7.3 percent in May. The U.S. index is 11.2 percent below its April 2007 peak and is roughly the same as the January 2005 index level.

Price action out of the gate this morning looks/looked much worse than the realities that created it. The somewhat significant gap between yesterday's 101-15 close in Fannie 3.5s and this morning's 101-03 lows look bigger than they otherwise might if yesterday's range wasn't a narrow 7/32nds. The same phenomenon is even more stark in 10yr yields where yesterday's range was only 2bps.

The same summertime liquidity issues that we've noted have led to "incidental" strength that could "just as easily have gone the other way" are doing just that this morning, or rather, they WERE. 10's and MBS have both bounced back a bit from their opening lows (or highs in terms of yield) so far.

Before that we had an overnight Treasury market that was brutally flat during Asian hours and relatively far more active in European hours. Core European debt sold off moderately and US Treasuries followed faithfully. Despite the existence of a few headlines and data points that could support a case for the weakness, we'd really hesitate to look at the details too closely. Again, the word of the past few weeks is "incidental" and it was the same for Europe's bond market weakness overnight.

In terms of 10yr yields domestically, it's just another small move away from 2.46, which is getting to be simply "what happens" any time we get close to 2.46. So even without Europe's overnight impact, we have the following three things in play:

1. Technical resistance floor at 2.46
2. Auction concession possibilities
3. Turnabout = fair play for recent "incidental strength."

In other words, it's weakness's turn, and with production MBS only down a quarter of a point, it could be worse. The only events of remote significance are the Fed's scheduled Treasury purchases in 6-7yr maturities at 10:15-11:00am and the afternoon's 2yr Note auction, but that's a stretch on both accounts. Fannie 3.5s are down 8 ticks (.25) at 101-07. 10's are up 3.2 bps at 2.516.