MBS MID-DAY: Stronger Start, Weaker into Noon Hour

MBS Pricing Snapshot

We'd already made our case for a weaker-than-expected Consumer Sentiment reading. Although that technically happened, it didn't happen enough to satisfy those who were expecting to see a lower headline than 75.2 vs a previous report of 77.5. In other words, the Fiscal drama had traders prepared for a bigger surprise to the downside, and it no looks like some of this morning's positivity in bond markets may have been an attempt to get ahead of that eventuality.

In plainer terms, traders were well within their right to account for the possibility that the data would be even weaker than it was. This likely added to some of the morning's gains in Treasuries/MBS. Then when the data came in fairly close to consensus, the aforementioned defensiveness was free to melt away.

It hasn't been much to write home about as 10yr yields have moved from just under 2.65 to just over 2.66. Fannie 3.5s are off their 101-17 highs, down to 101-14 (still 7 ticks up on the day.

- 75.2 vs 76.0 forecast, 77.5 previously
- 12-month outlook 63.9 vs 67.5 forecast
- 12-month outlook lowest since Dec 2011
- 1 yr Inflation expectations 2.9 vs 3.3 forecast
- Despite the 76.0 forecast, markets were apparently prepared for a worse reading than 75.2. Both stocks and bond yields have moved higher since the release.

(Reuters) - U.S. consumer sentiment deteriorated in October to its weakest level in nine months as the first federal government shutdown in 17 years undermined Americans' outlook on the economy, a survey released on Friday showed.

The Thomson Reuters/University of Michigan's preliminary reading on the overall index on consumer sentiment fell to 75.2 in October, down from 77.5 in September. This was the lowest figure since January.

The early October reading fell short of the 76.0 forecast by economists recently polled by Reuters.

While the sentiment gauge declined for a third straight month, the size of the decrease was relatively small, as worries about a protracted shutdown were mitigated by some optimism about income and inflation, survey director Richard Curtin said.

"Consumer confidence posted a surprisingly small decline in early October despite widespread awareness of the government shutdown," Curtin said in a statement.

Asian and European hours saw very limited movement in Treasuries with 10yrs holding a range of 2.675-2.692. Importantly, the 2.671 technical level held up firmly right until 8:20am. This can frequently be a time of day where things change or noticeably accelerate for bond markets as the the CME pit trade opens and CTA activity ramps up.

Bond markets were right on the edge of a technical victory, holding in the 2.67's when CTAs came online as better buyers. This started a small chain reaction of short covering (traders who had been betting on higher rates being forced to buy bonds in order to cover those bets).

The "window" mentioned in this morning's commentary was quickly "closed" no more than an hour after we pointed it out (meaning that 10yr yields quickly traversed the gap resting on 2.671, effectively defeating the technical signal that would have been very bearish for bonds, had the gap not been crossed).

Trading since then continues to be constructive. Stocks are rising in their first 15 minutes, but it hasn't slowed the roll of bond markets. The next informative event arrives at 9:55am with Consumer Sentiment. The forecast is for 76.0, but we wouldn't be surprised to see something lower given past precedent when it comes to fiscal drama. Any significant "miss" would help solidify these gains for bonds.

10yr yields are currently down to 2.65 and Fannie 3.5 MBS are up 10 ticks at 101-17.