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July 18th, 2012

• U.S. Already in a Recession
• Across the Yield Curve
• Hey Bond Market – This BUD’s For You!
• Bond Market Recap
• Bernanke Leaves Little New Information
• Industrial Production Posts a Welcome Surprise
• Headline Inflation Flat but Core Pressures Remain
• Falling Energy Prices Likely to Boost GDP
• A Preview of Bernanke’s Speech
U.S. Already in a Recession
Posted: 18 Jul 2012 03:00 AM PDT
By Bondsquawk
July 18, 2012
According to Societe Generale Cross Asset Research by Albert Edwards, the United States is already in a recession given the drop to below 30% in their Analyst Optimism index which tends to be a leading indicator of economic performance.
Economic data typically only confirm a recession has started some six months after the event. Analyst earnings optimism data by contrast are timelier and give a coincident snapshot of what is actually happening and is not subject to revision. Hence analyst optimism tends to lead the economic data. The recent collapse in US analyst optimism is confirming that a US recession has already begun.

The report also indicated that the world economy and global markets are also sliding into a recession. Hence, good upticks from China should not be taken as a true representation of its economic situation.
The markets were cheered by the Chinese monetary data showing bank lending and M2 picking up in June. This together with a stronger tone to Fixed Asset Investment offset the disappointment from weaker than expected GDP and industrial production. Market faith in a China soft landing remains high. But a fascinating FT Lex article really did leave me scratching my head in bewilderment. Apparently sales of major machinery producers are booming simply because “cash-strapped customers need machines for collateral to secure loans just to stay afloat”. Reports that half of all the machines sold by some of the leading suppliers of construction equipment (on credit) in Q1 have never been turned on, really are typical of the topsy-turvy world that is China Economics

This will result in US yields sliding even further than their all-time lows.
As the US hard landing is acknowledged, another decisive move down in US yields is imminent, mirroring the move in Korea. Add to that the likelihood of a China hard landing and it not hard to see US yields declining below Japanese levels in the next 12 months.

However, the article warned that the sovereign bond markets would face a lot of problems in the medium term.
We are approaching the end-game here for the bond bull market and with yields around the globe at record lows many investors are bailing out already – too early in our view. We would agree that on a 3-5 year time horizon government bonds will prove a catastrophic investment as the printing presses are revved up through the gears to deal with both recession and government insolvency.
The report pointed out that S&P moving averages indicate troubling signs ahead for the markets.
Finally I want to share with you news that the S&P is on the verge of an “ultimate” death cross. This is where a 50-month moving average (currently at 1152) falls below the 200-month average (currently 1145). The averages came close to crossing in 1978 towards the end of the 1965-82 secular bear market, but just held. By contrast Japan suffered a monthly death cross in 1998 and 14 years later we are still in the firm embrace of the bear.

Disclaimer
The above content is provided for educational and informational purposes only, does not constitute a recommendation to enter in any securities transactions or to engage in any of the investment strategies presented in such content, and does not represent the opinions of Bondsquawk or its employees.

Across the Yield Curve
Posted: 17 Jul 2012 05:00 PM PDT
Here are some interesting articles from across the web.
How to deal with possible increase in tax by Frank Holmes
Inside the Consumer Price Index by Doug Short
The Recession Debate has become a Moot Point by Cullen Roche
US Economy Activity Worsening Fast by Matteo Radaelli
Corporate Bond Market Holds Well by Dave Sekera
Corporate Bonds still Cheap by Michael Aneiro

Hey Bond Market – This BUD’s For You!
Posted: 17 Jul 2012 03:01 PM PDT
By Michael Terry – Seeking Alpha
July 17, 2012
As Beer 100 (yes, there is a website for everything) points out:
As almost any substance containing certain sugars can undergo spontaneous fermentation due to wild yeasts in the air, it is probable that beer-like beverages were independently invented among various cultures throughout the world. Chemical tests of ancient pottery jars reveal that beer was (like wine) produced about 7,000 years ago in what is today Iran, and was one of the first-known biological engineering tasks where the biological process of fermentation is used in a process.
In Mesopotamia, the oldest evidence of beer is believed to be a 6,000-year-old Sumerian tablet depicting people drinking a beverage through reed straws from a communal bowl.
The addition of hops to beer for bittering, preservation, and aroma is a relatively recent innovation: in the Middle Ages, many other mixtures of herbs were often employed in beer prior to hops. These mixtures are often referred to as gruit. Hops were cultivated in France as early as the 800s; the oldest surviving written record of the use of hops in beer is in 1067 by well-known writer Abbess Hildegard of Bingen: “If one intends to make beer from oats, it is prepared with hops.”
The process may not have changed much, but those involved in the production of this ancient beverage have changed significantly in terms of quantity produced, distribution and the transition from barrel to branding. One of the finest examples of this transition and the global branding of beer is brewing powerhouse Anheuser-Busch…
Read the Full Article

Bond Market Recap
Posted: 17 Jul 2012 02:59 PM PDT
By Rom Badilla, CFA
July 17, 2012
Amid Ben Bernanke’s pledge to stand ready to boost growth and a plethora of economic data releases, U.S. Treasuries sold off and found a respite today after recent declines in yields. After rallying in six out of the past 8 sessions where yields retested all-times lows and hit significant resistance levels, U.S. Treasury yields crept up higher today.
Ben Bernanke reiterated that the Federal Reserve continues to have tools at its disposal despite near-zero interest rates and is prepared to act should the economy show signs of weakness. While a laying down a possible game plan, Bernanke provided little information of the Central Bank’s future action, specifically, at the next FOMC date on August 1. (For further analysis, click here)
On the economic data front, core inflation pressures linger while industrial production data surprised to the upside suggesting better economic growth ahead. Today’s economic data may put a damper on the U.S. Treasury market’s recent bull run. (For in-depth analysis on today’s releases, click here and here)
According to Trade Monster’s Bond Trading Center, the yield on the 10-Year U.S. Treasury continued yesterday’s late session reversal after nearing the all-time lows from early June and inched higher by 3 basis points from yesterday’s close to end the day at 1.51%. On a dollar price basis, the benchmark declined 0.4%. The Long Bond underperformed the most as the 30-Year U.S. Treasury bond fell 1.1% which equates to a yield increase of 5 basis points to close the session at 2.60%. The yield on the 5-Year increased to 0.62% for a 2 basis points move on the day which translates to a 0.2% drop in price.

Bond Investing – U.S. Treasury Yield Curve
Despite the increase in the underlying Treasury market, Corporate Bonds outperformed as yields generally declined, led by the Banking Sector. After beating analysts’ earnings expectations despite declining revenues and net income, Goldman Sachs bonds jumped in price as yields declined. The yield on Goldman Sachs 5.75% Coupon Maturing January 14, 2022 (CUSIP 38141GGS7) fell 4 basis points to 4.567%.
While Goldman Sachs bonds outperformed Treasuries, Morgan Stanley outpaced the competition. The yield on Morgan Stanley 5.5% Coupon Maturing July 28, 2021 (CUSIP 61747WAL3) dropped 6 basis points to close at 5.257%.
Away from the action in the Banking sector, other Investment Grade bonds were generally mixed. The yield on Google 3.625% Coupon Maturing May 19, 2021 (CUSIP 38259PAB8) fell 3 basis points to a yield of 2.01%. The yield on Cisco Systems 4.45% Coupon Maturing January 15, 2020 (CUSIP 17275RAH5) ended the session at 1.990% for a basis point increase on the day. The yield on Intel Corporation 3.3% Coupon, Maturing October 1, 2021 (458140AJ9) jumped 3 basis points andfinished at a yield of 2.254%.
Target 2.9% Coupon Maturing January 15, 2022 (CUSIP 87612EAZ9) held steady to end at a yield of 2.310% while the yield on Wall-Mart Stores 3.25% Coupon Maturing October 25, 2020 increased 2 basis basis points to 1.956%.

If you have any questions or feedback on anything regarding the economy, markets, and bonds, feel free to Contact Us. We would be delighted to respond.
Disclaimer
The above content is provided for educational and informational purposes only, does not constitute a recommendation to enter in any securities transactions or to engage in any of the investment strategies presented in such content, and does not represent the opinions of Bondsquawk or its employees.

Bernanke Leaves Little New Information
Posted: 17 Jul 2012 01:00 PM PDT
By Bondsquawk
July 17,2012
According to Deutsche Bank’s Global Markets Research by Joseph LaVorgna, Ben Bernanke provided little information about the Federal Reserve’s future course of action and possible monetary policy tools in today’s testimony before the Congress. However, they suggested that Bernanke might provide some indications in tomorrow’s Q&A.
Bernanke provided no indication that the Fed is leaning toward significant additional quantitative easing measures to be announced at the next FOMC date on August 1. Policymakers are clearly concerned about heightened risks from Europe and recent weakness in the domestic economy (including slow employment gains), but additional action does not appear imminent.
The report also points out that the only stance the Fed might take in the near future would be the extension of the fed funds guidance from end of 2014 to mid-to-late 2015.
Even if such a measure is taken, we do not expect it to have a meaningful economic impact. The Q&A may contain clues about potential additional tools at policymakers’ disposal.
Disclaimer
The above content is provided for educational and informational purposes only, does not constitute a recommendation to enter in any securities transactions or to engage in any of the investment strategies presented in such content, and does not represent the opinions of Bondsquawk or its employees

Industrial Production Posts a Welcome Surprise
Posted: 17 Jul 2012 11:00 AM PDT
By Bondsquawk
July 17,2012
According to Deutsche Bank’s Global Markets Research by Joseph LaVorgna, Industrial Production data was a welcome surprise as it was much better than previously anticipated.
June industrial production increased +0.4% after the prior month was revised down 0.1% to ‐0.2%. This pushed the capacity utilization rate up 0.2% to 78.9%, thereby matching its post‐recession high.
The increase in capacity utilization would help ease the fears of a slowing economy and may make policy makers think twice over another round of stimulative measures.
Here is an assessment of the figures.
The growth in production was broad‐based led by a bounce in manufacturing production (+0.7%) which was underpinned by a healthy gain in the production of computers and electronic components (+1.0%), a key input into capital spending in the GDP accounts.
The June uptick in Industrial Production differs with the below par readings of 49.7 in the most recent ISM survey which suggested the potential for contraction in the economy. The report suggests that going forward both the ISM survey and Industrial Production could increase in tandem given last year’s pattern.
The rise in industrial production stands in contrast to the June ISM survey which registered a 49.7 reading. A similar profile emerged last summer as well. The July 2011 ISM survey printed 51.4 while industrial production grew 0.9%. We expect the pattern to repeat again this year. Moreover, the spread between ISM new orders and inventories remains positive, which typically is associated with ISM readings above 50.
Disclaimer
The above content is provided for educational and informational purposes only, does not constitute a recommendation to enter in any securities transactions or to engage in any of the investment strategies presented in such content, and does not represent the opinions of Bondsquawk or its employees

Headline Inflation Flat but Core Pressures Remain
Posted: 17 Jul 2012 09:00 AM PDT
By Bondsquawk
July 17,2012
According to Deutsch Bank’s Global Markets Research by Joseph LaVorgna , headline inflation was flat because of low energy prices but price pressures excluding food and energy (aka Core Inflation) went higher.
Headline CPI was flat in June due to declining energy prices (-1.4% vs. -4.3% previously). The decline was mostly due to gasoline (-2.0%), although electricity (-0.5% vs. +0.3%) also eased lower. Reduced energy prices will help to provide some buffer to consumers; compared to year-ago levels gasoline is down -4.3%, natural gas is down -13.6% and electricity prices are little changed (+0.5%). Food prices (+0.2% vs. unch.) are not yet moderating significantly, although the year-on-year growth rate is off of its peak (+2.7% vs. +2.8% previously). In the core, pressures remain fairly diffuse. Core inflation rose +0.2% in the month—as it has for 10 of the last 13 months. In year-on-year terms, it is rising +2.2% compared to +2.3% in March-April-May. In the underlying details, there were significant increases in apparel (+0.5% vs. +0.4%), new vehicles (+0.2% vs. +0.2%), medical care services (+0.7% vs. +0.5%), recreation services (+0.6% vs. +0.2%) and miscellaneous personal services (+0.4% vs. +0.3%). Shelter costs continued to rise (+0.1% vs. +0.2%), as rent of primary residence rose +0.1% (+2.7% year-on-year) and owners’ equivalent rent rose +0.1% (+2.0%).
The report also indicated that food and energy prices are likely to be less volatile unless a long term slowdown in production occurs. In addition, it is possible that core inflation would edge up higher if levels of growth improves.
Assuming that H2 GDP growth outperforms H1, we remain of the view that core inflation could edge toward 2.6% by yearend.
Disclaimer
The above content is provided for educational and informational purposes only, does not constitute a recommendation to enter in any securities transactions or to engage in any of the investment strategies presented in such content, and does not represent the opinions of Bondsquawk or its employees.

Falling Energy Prices Likely to Boost GDP
Posted: 17 Jul 2012 07:00 AM PDT
By Bondsquawk
July 17,2012
According to Goldman Sach’s US Economics Analyst by Jan Hatzius, Alec Phillips and Sven Jari Stehn, energy prices have plummeted since April and is likely to give momentum to growth.

According to the report GDP growth could improve by up to ½ percentage point over the next year if the prices are sustained going forward.
This estimate ignores the negative effects from the previous run-up in oil prices that are still in the “pipeline.” Taking these into account suggests that growth might be boosted by around 0.3 percentage point over the next year if the recent drop in energy prices persists. If energy prices rise again going forward, the growth boost will be correspondingly smaller.

However, the Goldman Sach’s report also pointed out that GDP figures might be lower than estimated.
The recent decline in energy prices, however, appears largely due to the economic slowdown that we have observed in recent months. As slower growth would itself lower energy prices—and thus imply a smaller energy price “shock” than the observed decline—the simulations in Exhibit 4 probably overstate the growth boost that can be expected over the next year.
A second concern pointed out by the report is that if oil prices increase going into the future which could slow the boost brought by falling prices.
Another issue is whether the effects of oil price increases and decreases really are symmetric—i.e. whether oil price decreases have the same (absolute) effect on GDP growth as oil price increases. A few researchers have argued that oil price increases— especially from already high levels—tend to be more harmful for growth than subsequent declines.
Given all the possibilities analysts predict a ¼ percentage point increase over the next year with a possibility of ½ percentage increase as well.
Disclaimer
The above content is provided for educational and informational purposes only, does not constitute a recommendation to enter in any securities transactions or to engage in any of the investment strategies presented in such content, and does not represent the opinions of Bondsquawk or its employees.

A Preview of Bernanke’s Speech
Posted: 17 Jul 2012 05:00 AM PDT
By Bondsquawk
July 17, 2012
According to Deutsche Bank’s Global Markets Research by Dominic Konstam and Aleksandar Kocic, Bernanke might discuss possible policy measures surrounding Quantitative Easing and/or Interest On Excess Reserves in tomorrow’s speech.
Bernanke might use the occasion to discuss likelihood of different policy options. QE will be the most interesting and specifically whether he raises the possibility of sterilized QE using repos or term deposits (see new tools below). This would encourage a decent flattening from long end as it would be equivalent to making the current twist program potentially very aggressive. There has been some speculation that the Fed may revisit an IOER cut in the wake of the ECB’s cut in the deposit rate and negative rates in Denmark.
The report suggests that though the Fed might lay out a framework for future course of action it is unlikely that they are going to act soon since FOMC minutes indicated that some members would not take any steps till there was further loss of economic momentum.
In terms of timing more accommodation we are biased to think that the Fed will tread cautiously.
In part this reflects the FOMC outlook whereby the shifts in interest rate projections were concentrated in a few hawks being less hawkish for 2012 but making up for it in 2013 (by hiking more). The increased dovishness of the doves came in the form of lowering Funds expectations for 2014 i.e. an extension of the period accommodation.

The report, however, also indicated that the Fed might not pursue IOER since negative rates in European front ends would likely lower short rates here.
If anything though it also encourages sterilized twist since the short leg will net have a negligible impact on the front end. Flattening the front ends also is consistent with extending the language of no hike through to 2015.
Disclaimer
The above content is provided for educational and informational purposes only, does not constitute a recommendation to enter in any securities transactions or to engage in any of the investment strategies presented in such content, and does not represent the opinions of Bondsquawk or its employees.

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