MBS MID-DAY: Huge Corporate Bond Numbers Help Explain Our Predicament

From yesterday's first reprice alert on MBS Live at 9:34am ET:

"There is also the ongoing theme of corporate bond issuance.  Several
more deals have been announced this morning, both at home and abroad. 
Additionally, investors expect issuance to remain active ahead of next
week's Fed Announcement."

New information is coming to light today that confirms just how much of a factor this may have been yesterday.  We're now learning that investors have put down bids totaling more than $70bln for just ONE of this week's big corporate bonds (AT&T).  That doesn't mean the bond itself will be $70bln.  In fact, it probably won't even be more than $20bln, but the level of investor demand for yield speaks volumes about the willingness to sell things like MBS and Treasuries in order to make room for more attractive opportunities. 

As we've often discussed, corporate debt issuance has another negative implication for Treasuries (and by extension, MBS).  The yield that investors receive is usually based on Treasury yields plus a margin.  As such, the issuing firm can protect themselves from rising rates during the issuance process by selling Treasuries. If rates rise and prices fall, they wouldn't be stuck holding a bond paying them below-market interest and could then reinvest the cash to earn a higher rate of return later.  It's a similar principle to MBS being sold when you lock a mortgage! The only way to guarantee terms is to sell the loan (or an equivalent amount of MBS).

Bottom line, corporate issuance creates new selling pressure in Treasuries.  Not all companies hedge in this way, but when issuance is robust, it's certainly a factor.  Not only that, but opportunistic investors KNOW it's a factor and try to take advantage of what they know is coming.  By the time you factor in the fact that corporate bonds serve as an alternative investment to Treasuries/MBS for some investors, it's one of the most profound detractors we deal with on a consistent basis. 

While we can't know what the specific hedging strategies of the AT&T deal have been (or will be), it's likely that it was a big player in yesterday's weakness.  The redeeming quality of this corporate debt hedging is that the hedges are often bought back after the deal is ultimately issued.  So to recap, that's "sell Treasuries, buy some back."   We haven't gotten to the "buy some back" part yet because investors don't yet know if the firms handling the AT&T deal have more hedging to do.  If MBS and Treasuries are still holding inside yesterday's weakest levels by the time AT&T deal is "priced," it would bode very well for us heading into next week's FOMC.