While Treasuries drifted higher and steeper last week, the agency MBS market maintained its recent price range, allowing lenders to put rate sheets into cruise control mode for the week. Although pre and post FOMC statement jitters made for a few moments of price volatility, originator's nervous thoughts about "the levee breaking" were calmed heading into the weekend as the rates market stabilized after Non-Farm payrolls data.

After all was said and done...the same old supply and demand dynamics continued to play out in the mortgage market: light supply coupled with an 'official' buying presence (the Fed) and continually slow prepayment speeds.  Early month 'supportive events' and with the previously described 'same old supply and demand dynamics' were indeed obvious as the agency MBS market noticeably outperformed their benchmark big brother hedges..

The secondary market current coupon opened the week yielding 4.297%, rose as high as 4.357%, and went out the door on Friday at 4.258%. In terms of relative value, the current coupon started last week's session at a yield spread of +88/10yr TSY...and never looked back...closing on Friday at a yield spread of +76/10yr TSY. That is quite a bit of yield spread tightening!

Here is a look at my spreadsheet...

In terms of price action, the FN 4.5 closed the week higher than it opened. Woohooo.

In the week ahead the Treasury market will focus its bias on $81 billion in US debt supply. While a light calendar, a few Fed speakers, and a day off mid-week do have their place in price action...the directionality of rates, we feel, remains highly correlated to market's appetite for debt supply. Whether or not traders are able to price in a pre-acution concession (which we think  happened last week: i.e, the yield curve steepened) is dependent upon waning optimism in equities and the extent to which short positions allow prices to slide deeper into profit taking territory before cashing in on their strategy. Yes, lots of open shorts in the 10yr TSY note right now. That means the market would happily let prices fall a few more ticks if given the choice.

In regards to the agency MBS market, last week's spread  tigthener is expected to give back a few bps this week as MBS are priced too rich relative to their higher credit quality benchmark big brother TSYs. While TSY supply would generally be a net positive for the expected performance of agency MBS coupons...we are getting pretty speculative about the shape of the yield curve and believe the this week a FADE is in order. 

Plain and Simple: the yield curve is steep and we expect bargain buyers to take advantage of it! (Short covering in auction?). Given the rich values of "rate sheet influential" MBS coupons, it is anticipated that some of the recent spread tightening will be given back as settlement passes and accounts look for better investments elsewhere on the risk curve (other debt instruments).

Here is the 2s/10s curve:

Now that doesn't necessarily imply higher mortgage rates, in fact many readers might not give a darn about the above FADE outlook.  (FADE essentially means the market goes the opposite of logical reaction).

While tigther "rate sheet influential" yield spreads were indeed supportive of  rate sheet rebate last week, the possibility of  wider yield spreads this week doesnt necessarily imply bad things to come for rate sheets this week. Lock/float biases are more dependent upon the direction prices head....meaning mortgage rates will  take their directional guidance from the price movements of the long end of the yield curve. As already described, eventhough MBS yield spreads are a bit tight, the large short base in TSYs and steep shape of the yield curve have the power to offset expected weakness in MBS yield spreads vs. benchmarks.

Plain and Simple: If yield curve bargain buyers take advantage of the steep shape of the curve...the unwinding of expensive MBS valuations could be offset  by a generally flatter and more expensive TSY curve... preventing price weakness in "rate sheet influential" MBS coupons and lighter rate sheet rebate.

Of course this outlook is all dependent on the TSY market's willingness to stop the yield curve from further steepening. This is the most important assumption in regards to the bias towards another range bound/status quo type week. If the opposite occurs...you'll look back and wish your pipeline has been securely fastened before the turbulence hit.

Today is Class A notification day in the TBA MBS market. At the end of the day both MG and I will get to have  a good laugh at the expense of rate watchers who skipped over this MBS OPEN where we reminded all of the late afternoon 10-12 tick price change that occurs as Class A (FN/FRE 30yr MBS) coupons go into the settlement process.

This morning the 10yr TSY note continues to test the confines of its recent range....this time its the originator friendly side of the range. Currently trading at 3.488%, below Friday's 3.499% going out yield.

The FN 4.0 is +0-05 at 98-26 and the FN 4.5 is +0-03 at 101-12. Expensive...