CDS

Overnight news began in China where the CPI came in 2.7% versus consensus of 2.5% although PPI continues to decline at a faster pace than expected (-2.7% v -2.6%). While nobody believes the actual print, that the PBOC is telegraphing an inflationary "leak" shows its willingness to continue with pro-tightening measures which is why despite an Alcoa "beat", the SHCOMP was up only 0.37%. Elsewhere in China, Bloomberg news quoting Xinhua said that some district governments of Ordos of Inner Mongolia is struggling with finances and had to borrow money from companies to pay salaries of municipal employees. Ordos is the infamous "ghost town" spurred by the mining boom in Inner Mongolia. The Bloomberg article noted that Ordos local government entities have CNY240bn of debt versus CNY37.5 billion of revenue last year.  And while the Alcoa "beat", helped handily by a hilariously "tapered" consensus into reporting day, did little for China it was the catalyst that pushed global stocks higher worldwide.

The central bank "reason" goal-seeked for today's US overnight ramp - because it sure wasn't fundamentals with both German exports (-2.4%, Exp. +0.1%) and Industrial Production (-1.0%, Exp. -0.5%) missing - was the weekend Spiegel story that despite the unanimous decision by the ECB last week to keep rates unchanged, ECB chief economist Peter Praet and Mario Draghi himself had insisted on a 25 bps rate cut. They were, however, stopped by seven council members from the northern euro states, including Weidmann, Knot and Asmussen. As a result, Draghi was steamrolled in the final vote. Yet somehow this is bullish for risk, pushing equity futures higher and peripheral debt spreads lower, even as the EURUSD has drifted higher. Of course, one can't have an even more dovish ECB as a risk on catalyst alongside a rising Euro, but who cares about news, fundamentals, or logic at this point. All that matters is that US futures are higher, which was especially needed following yet another rout in the Shanghai Composite which dropped 2.44% back under 2,000 following news that China's Finance Ministry has told central government agencies to cut expenditures by 5% this year, and a 1.4% drop in the PenNikkeiStock225 on a weaker USDJPY. Remember: all is well in the global economy (whose forecast is about to be cut by the IMF) if the US is generating a record number of part-time jobs.

While the skeleton crew of market participants are still digesting yesterday's uber-dovish, "forward guidance" conversion by the BOE and ECB, driven in response to the Fed's increasingly tight (at least relatively) monetary policy, they now have month's biggest economic and market catalyst to look forward to. In a day which promises to be rife with illiquidity as the bulk of US market participants are within 100 feet of a sandy beach, we are about to get the number that will shape the market's mood for the next month: will the Fed's tapering planes be strengthened in response to strong NFP, or not. As Deutsche accurately points out, the curveball to throw in is that June-August numbers have tended to be seasonally weak over the whole period we have data (back 70+ years) and again over the last 10 years. Today's number is therefore going to be fascinating. A number between 150-200k is unlikely to change anyone’s opinion on the Fed whereas a number below might start to build a case for a taper delay. Above 200k and the September taper momentum will build. Such a high number (especially in a weak seasonal period) is unlikely to be great for markets but the ECB/BoE might have cushioned some of the hawkish blow for now. For the record the market is expecting 165k on payrolls and 7.5% (DB same) for unemployment. A full NFP preview post is coming shortly.

Given the US holiday, markets are likely to be thin today but there are some big news stories floating around at the moment.  If the fast and furious events from the past few days in a revolutionary Egypt bear a striking resemblance to what happened in the spring of 2011, it is because they are strikingly comparable. Only this time, following the ouster of yet another US-supported "leader" by the US-supported military, the country's CDS has normalized at a level that is roughly double where it was two years ago as the implicit backing of the US looks increasingly shaky, following what was yet another bungled foreign policy venture by the Obama administration. But for now, the people are celebrating, just as they did in 2011. One wonders what happens between now and the next coup, somewhere two years (or less) hence. For now focus merely on who controls the Suez - after all that is really all that matters for the US. The other major story of yesterday, Portugal, continues to be in limbo,

The Portuguese government is on the rocks. The junior coalition partner the People’s Party (CDS-PP) will hold a meeting this afternoon to determine whether to support the government, if it withdraws support in parliament, elections seem inevitable, although they could be delayed for some months. Such a move would seriously hamper Portugal’s economic reform program, which is already off track. Portugal has only met its deficit targets due to one-off measures while competitiveness adjustments have slowed and contingent liabilities remain a hidden risk. With the country on the cusp of an unsustainable debt burden any delays would likely be the final straw which pushes Portugal into needing some form of further assistance. Things must be getting serious in Portugal, they just announced a short-selling ban on select banking stocks - how long before capital controls?

Presented with little comment aside to note that Egypt's 2020 bond yields are up 42bps today to a record 10.65%, the 5Y CDS has surged to 925bps and yet the last few days have seen egyptian equity markets jump almost 10%. Is the thinly-traded local market being driven by US ETF-driven news-algo flows or is it all going to be ok after all?

And just like that things are going bump in the night once more. First, as previously reported, the $100+ WTI surge continues on fears over how the Egyptian coup will unfold, now that Mursi has a few short hours left until his army-given ultimatum runs out. But it is Europe where things are crashing fast and furious, with the EURUSD tumbling to under 1.2925 overnight and stocks sliding on renewed political risk, with particular underperformance observed over in Portugal, closely followed by its Iberian neighbor Spain, amid concerns that developments in Portugal, where according to some media reports all CDS-PP ministers will resign forcing early elections, will undermine country's ability to continue implementing the agreed bailout measures. As a result, Portuguese bond yields have spiked higher and the 10y bond yield spread are wider by over a whopping 100bps as austerity's "poster child" has rapidly become Europe's forgotten "dunce." The portu-litical crisis has finally arrived.

Portgual stuck with austerity even after the orthodoxy changed.  The finance minister resigned and was replaced by someone who promises continuity.  This led to the resignation of the head of the jr coalition partner leader.  Still, snap elections are not the most likely scenario.  

Just over a month ago we noted that the black-market (blue-dollar) currency that existed in hyper-inflation-prone Argentina had reached epic proportions of disconnect from the official rate of exchange to the USD. It seems the government did not like this and so has decided to take control of this 'shadow economy' by creating a new payment method. As the FT reports, As of today, Argentines can pay with so-called Cedins (Certificates of Deposit for Investment), which unlike the peso, can be (legally) swapped for much-coveted dollars. Originally designed for real-estate purchases, they are set to be accepted for anything as long as buyer and seller agree. Argentina has a history of resorting to 'funny money' and Cedins will "operate like a national currency... [since] the peso has stooped serving as a savings instrument." While officials dismiss the blue-dollar market, this move clearly signifies there recognition of an un-official exchange dramatically devalued from the the official rates.

The Fed has managed to remove some of the complacency in financial markets for now, but we would also argue that financial markets have managed to remove any complacency the Fed (and any other central banks) may have had regarding how easy the exit strategy from QE was going to be. As we discussed here, the market and the Fed are trapped in a prisoner’s dilemma, and, as Citi notes, the events over the past three weeks make it clear that 'collaboration' is the best strategy – i.e. a non-complacent market and no hawkish surprises from central banks. There is a big risk to this scenario though. As Citi explains, a risk that we fear not even the recent dovish messages by central banks may be able to do much about. The recent sell-off has, unlike the previous sell-offs this year, managed to trigger outflows in funds and ETFs; as we mentioned above, our credit survey reports the first outflows since 2008. The negative feedback loop which has been triggered around (retail-driven) fund and ETF outflows has gained a momentum of its own and the following four charts suggest bonds are in fact primed for the perfect storm.

Despite best effort to immunize banks from rate swings and debt MTM risk, a substantial amount of duration exposure has remained with the glorified hedge funds known as FDIC-insured bank holdings companies under the designation of “Available For Sale” (AFS) or those which due to their explicit short-term trading fate, would have to be subject to mark to market moves. It is the bottom line impact of these securities that threatens to crush bank earnings in the just concluded second quarter by an amount that could be as large as $25 (or more) billion.

From the moment China opened last night, precious metals were under pressure; this accelerated during the middle of the European day, recovered modestly into the US open (on crappy data and implicitly no taper) and then slid lower for the rest of the day ending at its lows (gold -4.3%, silver -5.6%). Stocks were loving it - but again we saw the opening spike in homebuilders sold all day and Staples and Utilities outperforming (not really risk-on?). Treasuries never looked back and rallied all day (belly -7bps) to leave rates practically unchanged on the week (while S&P is up 20 points). The USD is up 0.7% on the week having rallied all day today - led by EUR weakness (and notably AUDJPY once again recoupled with stocks this afternoon). Credit modestly underperformed but rallied technically (more below) as the cash S&P 500 regained the all-important 1,600 level but Trannies rolled over into the close (and stocks remain down around 3% from FOMC levels). Oh, and AAPL <$400

Once again it is all about central banks, with early negative sentiment heading into Asian trading - following the disappointing announcement from the PBOC about "ample liquidity" leading to the 6th consecutive drop in the Shanghai Composite while the PenNikkeiStock index tumbled yet again -  completely erased and flipped as Mario Draghi spoke, although not to explain his involvement with the latest European derivative window-dressing scandal, but to announce that he is, once again, "ready to act" (supposedly through the OMT, which despite the best hopes to the contrary, still DOES NOT OFFICIALLY EXIST) and that while it is up to government to raise growth potentials, growth would "partly come from accommodative policy." In other words, ignore all BIS warnings, for Europe's unaccountable Goldmanite overlord Mario Draghi continues to promise more morphined Koolaid (read record Goldman bonuses) to any banker that comes knocking.

There is plenty of discussion of outflows but we though the following chart was perhaps the most insightful at why this drop is different from the last few year's BTFD corrections. As we noted here, corporate bond managers have desperately avoided selling down their cash holdings (since they know dealer liquidity cannot support broad-based selling and its an over-crowded trade) and bid for hedges in CDS markets. But it seems, given the utter collapse in the advance-decline lines for high-yield and investment-grade bonds that the liquidations have begun. While the selling in high-yield bonds is on par with the Lehman liquidationlevels, it is the collapse in investment grade bond demand that is dramatic (and worse than Lehman). It's not like we couldn't see it coming at some point (here) and as we warned here, What Happens Next? Simply put, stocks cannot rally in a world of surging debt finance costs.