The Day Ahead: Assessing Post-Taper Fallout

By: Matthew Graham •

Yesterday

- FOMC Announced Decrease in QE3 Buying ("taper")

- MBS and Treasuries each reduced by $5bln

- Bond market reaction was surprisingly calm relative to possibilities

- Some lenders did not reprice.  Some did, but not ruthlessly


Today

- Assessing balance between holiday volume, data, and post-Fed mood

- Jobless Claims, Existing Home Sales, and Philly Fed

- 7yr Treasury Auction and 5yr TIPS Auction, possible relief rally

Strategy

The Fed tapered yesterday, and bond markets didn't freak out as much as they might have.  Immediately following the announcement, bond markets went into hyper-volatility mode with 10yr yields spiking only briefly to 2.92 (which was just the first line of defense mentioned in our outlook yesterday morning).  Times were a bit tougher for MBS, which split the difference between positive and negative, ultimately leaking out to the weakest levels of the day by the close.

Even so, the final damage on Fannie 4.0s was 14/32nds.  This is a level of losses we might expect to see on a garden-variety "big sell-off," but certainly not as the very worst losses of the very last minutes of a very important FOMC Announcement day.  What gives?!

Explanations aren't complicated or particularly satisfying.  Simply put, bonds had sold off quite a bit in the last month and a half, baking in a good amount of the taper.  That much we knew, but we didn't know that the Fed would actually take our advice from back in September and taper by an almost inconsequentially small amount ($85bln is now $75 bln, and Bernanke hinted at future $10bln increments). 

The "Taper Lite" explanation is all well and good, but what about the notion we've argued for ourselves, which is that tapering is just as much about the turning of the corner as it is about a logistical reduction in bond market support?  I think we're seeing the results of that corner-turning process, which look like a 10yr yield right around 2.90, and ready to continue moving generally higher.  After all, if 10's were at 3% the last time they were convinced the Fed was going to taper by $15-20bln, being at 2.90 almost makes sense with the lower taper amount.

It will be interesting to see how much today's economic data matters.  Normally, this time of month is important for Jobless Claims as it covers the week in which the NFP survey takes place (the thinking goes that this "survey week" is more indicative of NFP).  But that conventional relationship is thrown off by the time of year (Decembers are a different animal) and the fact that Claims have been volatile to the point of being silly.

Instead, the Philly Fed numbers and Existing Home Sales have more of a shot of eliciting a reaction, assuming that traders didn't take off for the week yesterday afternoon.  On a final note, there are two Treasury auctions tomorrow--a 5yr TIPS and 7yr Notes.  Without thinking too hard about what a TIPS auction means for MBS prices (the world may never know, even Mr. Owl), and despite the fact that we've ragged on 7yr auctions in the past as being the less consequential than most, both of these issuances are still just that: ISSUANCE--debt that someone has to buy. 

Dealers know this and they knew FOMC was today and they knew it was a holiday week with generally crappy liquidity.  Maybe after the auction cycle is done, we'll find out if what we saw yesterday was a hint at firmer support at the 2.92 technical level in 10yr yields.  (That was an exceptionally confusing sentence, perhaps, so suffice it to say, yesterday might have been ok...  Did it mean anything good that 10yr yields bounced at that 2.92 level?   Hard to tell...  Maybe easier to tell after 1pm today).

MBS Live Econ Calendar:

Week Of Tue, Dec 16 2013 - Fri, Dec 20 2013

Time

Event

Period

Unit

Forecast

Prior

Mon, Dec 16

08:30

NY Fed manufacturing

Dec

--

5.50

-2.21

08:58

Markit Manufacturing PMI

Dec

--

55.0

54.7

09:15

Industrial output mm

Nov

%

0.5

-0.1

09:15

Capacity utilization mm

Nov

%

78.4

78.1

Tue, Dec 17

08:30

Trade Deficit

Q3

bl

-100.0

-98.9

08:30

Core CPI (Annual)

Nov

%

1.7

1.7

08:30

Core CPI (Monthly)

Nov

%

0.1

0.1

10:00

NAHB housing market indx

Dec

--

55

54

Wed, Dec 18

07:00

MBA Mortgage market index

w/e

--

--

396.2

07:00

MBA Purchase Index

w/e

--

--

186.1

07:00

MBA 30-yr mortgage rate

w/e

%

--

4.61

07:00

Mortgage refinance index

w/e

--

--

1635.4

08:30

Housing starts (Sep, Oct, Nov)

Nov

ml

.950

--

08:30

Building permits

Nov

ml

0.990

1.034

14:00

FOMC Announcement

N/A

%

--

--

14:00

FOMC Economic Projections

N/A

--

--

--

14:30

FOMC Chair Press Conference

N/A

--

--

--

Thu, Dec 19

08:30

Initial Jobless Claims

w/e

K

334

368

10:00

Leading index chg mm

Nov

%

0.6

0.2

10:00

Philly Fed Business Index

Dec

--

10.0

6.5

10:00

Existing home sales

Nov

ml

5.05

5.12

10:00

Exist. home sales % chg

Nov

%

-1.5

-3.2

Fri, Dec 20

08:30

Corporate profits

Q3

%

2.6

2.6

08:30

GDP

Q3

%

3.6

3.6