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Treasurys Take Latest Government Auction in Stride

The Treasury market took the government's latest 7-year note auction in stride, compared to Wednesday's wild action.

Long-dated bonds traded slightly better on the day ahead of the auction of $26 billion in 7-year notes. There was some selling in the 10-year immediately after the 1 p.m. auction, but soon after, buyers were back.

The 10-year was yielding 3.674 percent in mid afternoon, off from Wednesday's highs above 3.73 percent.

Stocks bounced back after the auction, which was considered to be the latest test of the government's efforts to push billions of dollars in new Treasury supply into the markets.

The 7-year duration was expected to have been a more difficult sell than the 2-year and 5-year auctions earlier in the week since it is just the fourth auction of the recently reissued 7-year maturities.

"You had guys taking 7-years in at the low end of the range," said Michael Franzese of Standard Chartered. "The pre-selling had happened. A lot of people got some good selling off ahead of them and that's why the market came down. You had a four basis point concession."

"Now the big question is whether we can get some people to come in and buy the supply because they don't believe the stock market has more legs on it," Franzese added. "That's the bet right now. Is it worth coming in at 3.75 (percent) on the 10 year or buying the stock market?"

Hedging by mortgage traders, who sell the longer-dated Treasurys as mortgage yields rise, was blamed in part for a quick run up in 10-year and 30-year rates after Wednesday's 5-year auction.

"I thought the 2-year and 5-year were much better auctions than the 7-year," said Brian Edmonds, head of interest rate trading at Cantor, Fitzgerald.

"We're still in an environment where people are worried about convexity (mortgage-related) selling. They're worried about the large calendar issuance in the U.S., and there is concern that the rise in interest rates could hurt the recovery," said Edmonds.

Edmonds and others in the Treasury market say the Fed's quantitative easing program may need to be modified, in order to prevent the run up in rates from continuing. Mortgage rates have jumped despite the Fed's purchases in the mortgage market. At the same time, the Treasury is issuing hundreds of billion in new supply, which creates an overhang and pressures rates.

"We're certainly pushing the envelope right now because the markets are very nervous about supply. We're seeing a backup of interest rates right now even as the Fed does quantitative easing. Maybe they need to send a message that they are fiscally concerned...that it's not just an unlimited amount they're issuing," said Edmonds.

Edmonds said there could be some volatility because of end of month selling by mortgage traders. "End of month sometimes can be a little funky," he said.


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