US: Markets modestly negative again this morning. Reports came out yesterday cited that the Fed ordered U.S. banks to undergo stress tests with unemployment rate at 11% in recession-like conditions. CPI released yesterday increased 0.4% MoM v 0.3%E, lightening expectations of deflation. The move contributed to inflation concerns among G-20 policy makers meeting in Paris this week. Nevertheless the prints gave no sign that the Fed would hike and the curve bull flattened as a result. The rise in LIBOR-OIS to 16.75bp from a BoY base of 12bp causes us some concern when viewed in light of the recent ECB borrowing facility jump. Though rates still feel in their “normal” range, we are definitely suspect of the funding undulations of the past few weeks.
Europe: European stocks rose again for a fifth day yesterday, continuing to be driven by corporate earnings above market expectations. Moody’s downgraded German banks’ subordinated debt due to the risk of new legislation that may lead to losses for debt holders. German law removed the protection Tier 2 bond holders previously held in order to minimize taxpayer burden. Japanese Nikkei Business Daily reported that German Finance Minister Wolfgang Schaeuble indicated that Germany is willing to support Portugal in the event of funding problems in order to prevent the spread such problems to Spain. Meanwhile, the office of the Portuguese Prime Minister reaffirmed that the country does not need any external financial assistance. German producer prices rose 1.2% MoM v 0.6%E and 5.7% YoY v 5.1%E, heightening fears of inflation. SOVXWE continues to eke wider after tightening to 170bp – the index currently is out to 176bp. Given the politics and debt maturities over the next six weeks, we expect more vol to come.
Asia: The PBOC announced a 50bps increase in the reserve requirement ratio, bringing it to 19.5% for some of the country’s largest banks. This is the second raise this year as China moves to tighten liquidity and stave off inflation. We still believe that removal of the currency peg will ultimately be necessary to achieve full monetary independence from US policy. Minutes from the Bank of Japan’s January meeting cautioned against being overly optimistic in the U.S. economy, citing the U.S.’s burden of “balance sheet adjustments”, in contrast to the U.S. Fed’s latest minutes.
From Brian Yelvington of Knight Capital