After the initial knee jerk reaction to better than expected economic data, stocks rallied and the rates market sold off. However, shortly after market's absorbed the data, the tide turned and stocks reversed course which allowed the rates market to recover losses.
Whether or not the reaction to this data is indicative of a shift in market sentiment is difficult to determine as many participants wont return to their desks until after the Labor Day holiday. Adding complications to forecasts is the release of Employment Data on Friday, followed by a long Labor Day weekend. Although it may be a bit early to be blaming a long weekend and looming influential econ release...we feel the effects are noticeable via the market's choppiness.
Plain and Simple: No one wants to catch a falling knife, no wants to get caught on the wrong side of momentum.
However, if we were attempting to form a mid-term outlook we might refer to the old attage "buy the rumor sell the news" as an explanation of trading flows. More than anything we are looking for the market to begin to trade "against the herd". Meaning...if the majority of positions were bullish...than a profiting opportunity would arise by countering the broad bias or more simply put...by making more trader's wrong than right. Something that big banks have the ability to do...follow the market makers.
Either way, after yesterday's move lower, stocks are showing continued signs of weakness. The S&P, led lower by financials, has broken 1,015 support and is now testing the 1,000 mark. A price level not seen since August 20...
Is this the beginnings of a correction?
It could be. It couuuld be....see holiday week explanation above though
In the rates market the influence of the stock lever is obvious. The 10 yr TSY note has also returned to levels not visited since August 20....Our target is 3.36% then 3.26%.
Meanwhile, rate sheet influential MBS coupons have chopped around in a volatile manner. In a short time frame, related market action led MBS prices to the lows of the day then to the highs of the day. Currently the FN 4.5 is +0-05 at 100-20...off the intraday high price point.
When examining internal mortgage trade flows we note that the Federal Reserve's buying powers have been focused " UP IN COUPON" this morning....specifically 5.5 coupons.This is a bit baffling. The best explanation we can offer is as follows....
As benchmark yields fall and MBS rise into new price handles, real money accounts (banks, insurance companies, pension funds, money managers) must adjust the sensitivity of their portfolio to shifts in the yield curve. Today these real money accounts are adding duration to their portfolio by selling shorter (less) duration "UP IN COUPON" positions. This adjusts the sensitivity of their assets to shifts in the yield curve to match the sensitivity of their liabilities to shifts in the yield curve.
Remember: these buyers are generally long term investors. As benchmark yields fall and MBS prices rise...so too does prepayment risk.
By purchasing 5.5 coupons,the Fed is simply providing liquidity to the marketplace.
Looking Ahead...
Much of this rates rally is being fueled by speculative positioning...aka the effects of the stock lever. If stocks remain at session lows for the rest of the day, these MBS prices should hold. However, one hurdle arises with increasing mortgage prices. As MBS prices tick higher, mortgage originators will look to start locking in rates. Think of this as mortgage bankers taking profits on their pipeline of loans. Although this has yet to occur today...it is a lingering concern. (the weakness would be illustrated via wider MBS/TSY yield spreads...something not as noticeable to the originator community).
Plain and Simple: stock lever in effect
PS...only a few reprices for better noted so far
PPS...re:speculative positioning. Servicers not buying rate sheet influential MBS yet....when servicers start buying it is not speculative, its a necessity. This would be a sign of acceptance...acceptance of current price levels. Good for mortgage rates...
MBS Market Alerts
