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Friday, August 7, 2009

Fixed Income Recap


Initial Jobless Claims for the week ending July 31 fell to 550k from 588k the previous week, surprising the market that was expecting 580k. The better than expected news hurt Treasuries as the yield on the 10-year rose 5 basis points to 3.78%, near its high for the day.

The Fed purchased $7 billion in the 7-10 year area yesterday, just under the average for that maturity range, but received just over $48 billion in submitted offers from dealers, almost double the average for that area of the curve and more than any other time since Treasury open market operations began in March. Surprisingly it didn’t move the market all that much. Bonds had already rallied off their lows by that point and stayed pretty steady until late afternoon trading.

There was an article in yesterday’s Washington Post on the potential avenues the government is considering for the unwinding of Fannie and Freddie. When the two Government Sponsored Enterprises were taken over by their regulator last year and an unwind was scheduled to begin at the end of 2009. With that deadline rapidly approaching, and a worse than expected housing market still plaguing the GSE’s portfolio, an early 2010 beginning to a FNMA FHLMC unwind seems unlikely.

James Lockhart, head of the FHFA, Fannie and Freddie’s regulator, proposed a good bank bad bank model where existing securities issued by Fannie and Freddie will remain as they are, but a new entity will be spun off in order to attract new private investment.

The two mortgage lenders existed for many years as quasi government supported entities. They were able to borrow at lower rates than the rest of the private sector, thanks to an implied government backing, but were privately owned, and therefore had a responsibility to return profits to their shareholders. In my opinion, the new “good bank” cannot survive in a hybrid form like it did previously. That model is flawed. The new company must be either completely spun off, and stand entirely separate from both the support and influence of the government, or simply be combined with Ginnie Mae, who’s securities carry the full faith and credit of the US Treasury. Regardless of what happens the mortgage lending landscape will look very different in a few years.


Cliff J. Reynolds Jr., Investment Analyst

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