Across the Curve

Bond Market Close June 19 2009

Prices of Treasury coupon securities are registering modest gains today as they erase some of the steep losses of yesterday. There was stability in the mortgage market and a modicum of that in the swap market. There was some client buying of mortgages and the belly of the Treasury curve as well as central bank interest in the 2 year sector.

I think that professional traders dominated the price action. There are certainly a few reasons extant for professionals to reel in shorts in advance of the weekend.

There is a geopolitical component to the bond equation at this time. There is turmoil in Iran and I doubt anyone can intelligently speculate regarding the market outcome if the theocracy in Iran is torn asunder.

Likewise, the nuclear parvenus in North Korea have defied UN resolutions and are supposedly contemplating lobbing a missile in the general direction of our 50 th state over the July 4th holiday. I mean no disrespect but the fellow who rules that country is living in some alternate reality and one can not even attempt to guess what impact he might have on the markets.

Finally, the bureaucrats at Moody’s have chosen to place the State of California on watch for a possible downgrade. That would tend to make shorts more apt to cover.

So on a thinly traded summer Friday there are quite a few reasons to reduce risk in front of the weekend.

The FOMC meets next week to plot the near term course of monetary policy. I have read some missives which suggest that they will tinker with the QE program. One writer opined that they will take the existing programs and combine them into one big aggregate pile with the same total but the Desk would have discretion to concentrate its purchases more tightly than before.

I think any experimentation with the program is dangerous. One could say that QE is a failure. On the day that it was announced in March the 10 year was trading in the 2.90s and closed that day in the 2.40s. Since they began the program the rate on the 10 year note has increased about 140 basis points from its lows.

I believe that they run the risk of spooking the interest rate market as well as the FX market if they try to fine tune that dubious program

However,I do think they will reiterate their devotion to keeping rates at zero for an “extended period”. They   will note the green shoots but will note the very tenuous state of the recovery and the need to foster growth via low rates.

The yield on the 2 year note dropped 4 basis points today to 1.21 percent. The yield on the 3year note edged lower by 4 basis points to 1.83 percent. The yield on the 5 year note slipped 4 basis points to 2.80 percent. The yield on the 7year note declined 6 basis points to 3.44 percent. The yield on the 10 year note decreased 4 basis points to 3.79 percent and the yield on the Long Bond fell 6 basis points to 4.54 percent.

The 2year/10 year spread is 258 basis points.

The 2year/5year/30 year spread posted marginal improvement at 15 basis points.

Have a great weekend!