Treasuries and mortgages opened weaker this morning with little new developments in the Mid-East. After weeks of increasing protests from citizens in many Mid-East countries last night it was relatively quiet. As we noted previously, interest rate markets are increasingly concerned about the increasing strength of the economy and now after Jan PPI and CPI the worries over inflation have momentarily increased. Without safety moves into treasuries lead by the what is happening in the Mid-East the bond market will re-focus on domestic economic conditions and the potential that producers and businesses will begin to increase prices after absorbing them for months. At some point the increases in commodities will have to be passed on to consumers; we believe we are getting closer each day.

If price increases begin to surface to consumers it will likely begin in food prices, most every food commodities have increased dramatically. While the Fed continues to focus only on inflation that excludes food and energy as its gauge of inflation, and discounts much of the increases in commodities, sooner rather than later prices across the spectrum will begin to increase. Prices of non-food commodities are increasing as well; aluminum, copper, platinum, silver, oil, all have seen huge price increase as well. Once manufacturers and businesses can no longer absorb input price increases, and they are coming close, the fears of inflation will quickly rise. With interest rates as low as they are it won't take much to open the flood gates. Food prices in some areas are already being passed on in the form of lesser quantities for the same money.

There are no economic releases scheduled today, and Monday is a holiday for the bond and mortgage markets (President's Day). Looking ahead; next week Treasury is back to borrowing, Jan existing and new home sales lead the headlines. On Tuesday Treasury will auction $35B of 2 yr notes, Wednesday $35B of 5 yr notes and Thursday $29B of 7 yr notes. The total at $99B is the same as last month and the same since last Oct. As long as there is quiet in the Mid-East the bond and mortgage markets will not likely improve much and more likely see some pressure within what we now believe is a new range; basis the 10 yr note between 3.75% and 3.50%.

...."The Federal Reserve is committed to its long-standing practice of ensuring that all of its rulemakings are conducted in a fair, open, and transparent manner. Accordingly, we are disclosing on our public website summaries of all communications with members of the public--including banks, trade associations, consumer groups, and academics--regarding matters subject to a proposed or potential future rulemaking under the act....." Bernanke before the Committee on Banking, Housing, and Urban Affairs, U.S. Senate yesterday. Bull! The Fed is completely ignoring the mortgage broker industry, trying to dictate how originators are paid with little or no regard to the impact on professional mortgage originators that don't want to work for a bank....socialism from the Fed. Bernanke says the right things but doesn't actually back it up. Non-bank mortgage lenders are ignored in favor of those large banks that the Fed and Comptroller of the Currency regulate. Bernanke knows full well where most of the blame lies for the sub prime crisis that almost collapsed global economies.

....."The preferences of foreign investors for highly rated U.S. assets, together with similar preferences by many domestic investors, had a number of implications, including for the relative yields on such assets. Importantly, though, the preference by so many investors for perceived safety created strong incentives for U.S. financial engineers to develop investment products that "transformed" risky loans into highly rated securities. Remarkably, even though a large share of new U.S. mortgages during the housing boom were of weak credit quality, financial engineering resulted in the overwhelming share of private-label mortgage-related securities being rated AAA. The underlying contradiction was, of course, ultimately exposed, at great cost to financial stability and the global economy....."  Ben Bernanke at the Banque de France Financial Stability Review Launch Event, Paris, France this morning. The Fed will admit the sub-prime mortgage disaster was primarily the responsibility of Wall Street but still is trying to lay much of it on mortgage originators with its attempt to rule how LOs are compensated, aligning itself with the large banks that are dead set on taking control of all mortgage lending that will without any doubt cost consumers more.  

courtesy - www.tbwsratealert.com

  Treasuries and mortgage markets started weaker this morning prior to 8:30 data. At 8:30 three data points were released. Jan retail sales were lower than expected at +03% against +0.6% expected, excluding auto sales up 0.3% also against estimates of +0.5%. We question the reliability of the data, as noted previously severe weather in most of the country in Jan likely distorted the data. Whether the sales would have been better or worse due to the weather is difficult to interpolate. Dec retail sales were revised slightly lower but not much.

The second report this morning, the Feb NY Empire State manufacturing data; the overall index was expected at 15.0 frm 11.92 in Jan, as reported it increased to 15.43. The new orders component fell however, to 11.8 frm 12.29; employment also fell, to 3.6 frm 8.42 and prices pd increased to 45.78 from 35.79. Overall the NY report didn't quite meet expectations.

The third report at 8:30; Jan export and import prices; import prices for the month increased 1.5% while export prices were up 1.2%. Yr/yr import prices increased 5.3% while yr/yr export prices increased 6.8%.

Weaker retail sales and softer NY Empire State manufacturing put a bid in the rate markets, prior to the 8:30 releases the 10 yr note traded off 7/32 and mortgage prices were down 5/32 (.15 bp). At 8:45 the 10 moved to unchanged on the day and mortgage prices improved to unchanged.

At 9:30 the DJIA opened -29, the 10 yr note -3/32 and mortgage prices -2/32 (.06 bp).

Dec business inventories rose 0.8% slightly better than 0.7% expected. Sales were up 1.1% with the sales to inventory ration at 1.25 months unchanged from Nov.

The final data point today, at 10:00 the NAHB housing market index, expected unchanged from Jan at 16, was at 16 the 4th month at that level.

As you know, markets are continuing to fret over inflation levels; in the US we don't see it but in England the inflation rate announced this morning was double what the Bank of England wants; up 4.0%. While we don't see it yet in the US Europe's and China's rates are increasing. Even with little inflation here, the increases in inflation around the globe will add additional pressure to US bond markets.

Yesterday the budget battle started with the Administration's 2012 release of it's budget. As noted yesterday, it is dead in the water from the start. A baby step that doesn't mention the entitlement programs that must be cut to bring down the expanding annual deficits. This yr the deficit is estimated at $1.5T and may actually exceed that amount. The first shot yesterday came from the Sec of Defense, Gates; he isn't happy with cuts to military projects for new planes and other weapons. Imagine when someone in power actually starts talking about cuts in entitlements. Unless our deficits are brought under control and are believable to foreign investors that fund our shortfall US interest rates will increase to double digits within two years. Without the world funding the US deficits the long term outlook for US interest rates and the economy is not good to say the least. In the end we are left with the question; who will take up the battle (politicians) and put the country's interest ahead of their individual interests? 

The outlook for interest rates is still for a gradual move higher, however we continue to hold that rates won't increase much. The 10 yr note no higher than 4.00% and 30 yr mortgages holding at 5.5%.

 Treasuries and mortgage markets opened softer this morning but nothing major. Over night China raised interest rates for the third time since the middle of Oct as its inflation rate hangs at 4.0% for the third month. In Europe German Dec industrial production fell unexpectedly for a second consecutive month on colder weather that hampered construction, down 1.5% frm Nov and against +0.2% that was expected. The US stock market isn't being hit early but with the weaker data from Germany Europe's stock markets trading lower. In Germany, where the economy is booming and import-price inflation is running at the fastest pace in 29 years, workers are demanding bigger pay increases. Inflation concerns are spreading abroad (China, India, Germany to name a few); not here yet but investors in long term fixed income investments (10 yr notes and 30 yr bonds and long term corporates) are not waiting for the whites of the eyes. With interest rate so low any thoughts of inflation are going to pressure rate markets.

Are we headed for an increase in inflation? If so, will it be much of an increase? Inflation concerns are currently based on rising energy and commodity prices, it depends on whether commodity prices remain at these or higher levels; producers and businesses so far have been able to absorb price increases but that is likely over. Unless prices decline inflation will increase a little; the Fed wants it up to 2.0% frm the present 0.8% to 1.0% rate. The bond market is moving up in yield anticipating deflation is now dead, with the very low existing rates just the talk of a small increase in inflation has driven rates up 30 basis points on the 10 yr and 20 basis points on mortgages in less than a week.

Earlier this morning Richmond Fed's Lacker was speaking, he said he wants the Fed to re-consider the remaining QE 2 now that the economy is growing faster than the Fed expected. Lacker has been dissenting on about every QE move the Fed has undertaken. He is concerned that inflation will increase as it is in China and many emerging markets. It is highly unlikely the Fed will abandon QE 2 but equally unlikely there will be a QE 3 as some have mused recently. Lacker estimates the US economy to grow 4.0% this year; he sees a better jobs market, "robust" consumer spending, and the inflation rate between 1.5% and 2.0%. 

The Johnson Redbook retail report this morning reported chain store sales for the first week of Feb up 1.7% frm Jan; yr/yr +2.7% frm the the first week of Feb. 2010.  

Looking to tomorrow, Ben Bernanke is scheduled to testify at the House Budget Committee. He will be grilled to explain what the Fed is planning to withdraw its easing. His testimony is the first that we don't have Barney Frank running to testimony, although barney will have his moment. With Republicans now in control of the committee the hearing will get a lot of attention.

The only thing scheduled today is the $32B 3 yr note auction at 1:00 this afternoon. Auctions this week will be interesting to monitor as yields have broken out of their month and a half long ranges and may entice buyers at these higher levels. If demand isn't strong look for the bond and mortgage markets to work higher in rate and lower prices. The 3 yr usually sees decent demand, tomorrow's 10 yr auction is what we are concerned with, weak demand will push mortgage rates higher.