For the week, the S&P500 gained 1.4% (up 0.9% y-t-d), and the Dow rose 1.4% (up 1.7%). The broader market was strong. The S&P 400 Mid-Caps rose 2.2% (up 7.5%), and the small cap Russell 2000 jumped 2.4% (up 4.2%). The Banks added 0.6% (up 9.7%), while the Broker/Dealers were unchanged (down 9.3%). The Morgan Stanley Cyclicals jumped 2.0% (up 4.6%), and the Transports increased 0.7% (up 8.1%). The Morgan Stanley Consumer index rose 1.0% (up 2.9%), while the Utilities slipped 0.9% (down 0.5%). The Nasdaq100 jumped 3.4% (up 5.1%), and the Morgan Stanley High Tech index rose 3.4% (down 1.1%). The Semiconductors surged 5.6% (down 7.1%). The InteractiveWeek Internet index gained 3.2% (up 14.6%). The Biotechs added 1.0%, increasing 2010 gains to 22.2%. With bullion rising another $28, the HUI gold index jumped 2.8% (up 15.2%).

One-month Treasury bill rates ended the week at 10 bps and three-month bills closed at 15 bps. Two-year government yields sank almost 10 bps to 0.45%. Five-year T-note yields dropped 14 bps to 1.40%. Ten-year yields declined 5 bps to 2.74%. Long bond yields rose 3 bps to 3.89%. Benchmark Fannie MBS yields were little changed at 3.59%. The spread between 10-year Treasury yields and benchmark MBS yields widened 14 bps to 85 bps. Agency 10-yr debt spreads widened 3.5 to 27 bps. The implied yield on December 2010 eurodollar futures declined 4 bps to 0.405%. The 10-year dollar swap spread increased 3.25 to 1.75. The 30-year swap spread increased 1.5 to negative 35.5. Corporate bond spreads were mixed to narrower. An index of investment grade spreads narrowed one to 104 bps. An index of junk bond spreads narrowed 8 to 546 bps.

It was another huge week of debt issuance. Investment grade issuers included GE Capital $2.0bn, American Honda $1.75bn, Amgen $1.5bn, Symantec $1.1bn, Manulife Financial $1.1bn, Tennessee Valley Authority $1.0bn, Entergy $1.0bn, Cliff Natural Resources $1.0bn, Corn Products International $1.0bn, Fiserv $750 million, Suzano Trading $650 million, Nucor $600 million, John Deere $500 million, Blackstone $400 million, Edison International $400 million, Southern Co $400 million, SVB Financial $350 million, Comerica $300 million, Berkley $300 million, BRE Properties $300 million, Alleghany Corp $300 million, Borg-Warner $250 million, JB Hunt $250 million, Wyndham Worldwide $250 million, Harsco $250 million, Commonwealth REIT $250 million, and JPMorgan Chase $250 million.

Junk issuers included Energy Transfer Equity $1.8bn, Ford Motor Credit $1.0bn, Visant $750 million, BE Aerospace $650 million, Inergy $600 million, Celanese $600 million, Continental Resources $400 million, Celulosa Arauco $400 million, FTI Consulting $400 million, Alere $400 million, Polyone $360 million, Huntsman International $350 million, Zayo Group $350 million, Chaparral Energy $300 million, Brigham Exploration $300 million, PHI $300 million, Hertz $300 million, Proquest $275 million, Graham Packaging $250 million, Graphic Packaging Intl $250 million, UHS Escrow $250 million, Level 3 Communications $175 million and Beverages & More $125 million.

Converts issues included American Equity $170 million, Tower Group $135 million and Volcano Corp $100 million.

A long list of international dollar debt sales included Transocean $2.0bn, Brazil $1.775bn, Royal Bank of Scotland $2.0bn, Ukraine $2.0bn, Weatherford International $1.4bn, Woolworths $1.25bn, Barclays $1.0bn, Intelsat $1.0bn, Itau Unibanco $1.0bn, CSN Islands $1.0bn, Asciano Finance $1.0bn, Banco Santander $700 million, Korea Finance $750 million, Telemovil $450 million, Rabobank $350 million, and Riocan Real Estate $100 million.

U.K. 10-year gilt yields were little changed at 3.12%, and German bund yields added about 3 bps to 2.43%. Greek 10-year bond yields fell 18 bps to 11.55%, while 10-year Portuguese yields jumped 31 bps to 6.07%. Ireland yields surged 48 bps to 6.29%. The German DAX equities index was little changed (up 4.2% y-t-d). Japanese 10-year "JGB" yields dropped 8.5 bps to 1.07%. The Nikkei 225 rallied 4.2% (down 8.7%). Emerging equity markets were mixed. For the week, Brazil's Bovespa equities index increased 0.4% (down 2.2%), and Mexico's Bolsa gained 1.3% (up 2.9%). Russia's RTS equities index declined 2.5% (up 1.4%). India's Sensex equities index surged 4.2% (up 12.2%). China's Shanghai Exchange declined 2.4% (down 20.7%). Brazil's benchmark dollar bond yields sank 25 bps to 3.95%, and Mexico's benchmark bond yields fell 14 bps to 4.02%.

Freddie Mac 30-year fixed mortgage rates increased 2 bps last week to 4.37% (down 67bps y-o-y). Fifteen-year fixed rates dipped one basis point to to 3.82% (down 65bps y-o-y). One-year ARMs dropped 6 bps to 3.40% (down 118bps y-o-y). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed jumbo rates down 5 bps to 5.32% (down 92bps y-o-y).

Federal Reserve Credit expanded $2.7bn to $2.289 TN. Fed Credit was up $69.4bn y-t-d (4.4% annualized) and $200.7bn, or 9.6%, from a year ago. Elsewhere, Fed Foreign Holdings of Treasury, Agency Debt this past week (ended 9/17) declined $11.1bn (14-wk gain of $134bn) to $3.209 TN. "Custody holdings" have increased $254bn y-t-d (12.1% annualized), with a one-year rise of $367bn, or 12.9%.

M2 (narrow) "money" supply increased $11.1bn to $8.701 TN. Narrow "money" has increased $168bn y-t-d, or 2.8% annualized. Over the past year, M2 grew 3.2%. For the week, Currency added $1.2bn, while Demand & Checkable Deposits declined $8.7bn. Savings Deposits jumped $21.3bn, while Small Denominated Deposits fell $4.7bn. Retail Money Fund assets increased $2.0bn.

Total Money Market Fund assets (from Invest Co Inst) dropped $24.6bn to $2.814 TN. In the first 37 weeks of the year, money fund assets fell $480bn, with a one-year decline of $668bn, or 19.2%.

Total Commercial Paper outstanding sank $22.9bn to $1.036 TN. CP has declined $134bn, or 16.1% annualized, year-to-date, and was down $154bn from a year ago.

International reserve assets (excluding gold) - as tallied by Bloomberg's Alex Tanzi - were up $1.375 TN y-o-y, or 19.1%, to a record $8.579 TN.

Global Credit Market Watch:

September 17 - Bloomberg (Abigail Moses and Bryan Keogh): "Investors are paying record-high premiums to insure against default on European sovereign bonds relative to corporate notes as governments struggle to reduce fiscal deficits while companies repair balance sheets. An index of credit-default swaps on 15 European governments now exceeds a gauge of investment-grade credit risk by about 48 bps..."

September 15 - Bloomberg (Richard Bravo): "Record sales of speculative-grade bonds this year have chipped away at the wall of debt coming due through 2012, even as companies failed to reduce borrowings relative to earnings, according to Moody's... About $55 billion of high-yield, high-risk bonds mature through 2012, down 37% from $87 billion in February, Moody's analysts led by Kevin Cassidy... said... Companies issued about $120 billion of junk bonds in the first half of the year, up from $63 billion over the same period in 2009..."

September 17 - Wall Street Journal (Mark Gongloff): "One of the markets at the heart of the credit bubble has surged back with surprising speed as investors chasing yield are increasingly willing to finance riskier companies. Poster children of the mid-2000s credit bubble, leveraged loans are set to have their busiest year since 2008, thanks to a rush of money into the market from investors looking for high-yielding alternatives to stocks and junk bonds. It is a boon for speculative-grade companies looking to refinance and for private-equity firms hoping to start a buyout wave. But just as the market has sprung back from its depths, so too has the relative riskiness of many loans. Investors are letting companies take on more debt relative to their cash flows and use the proceeds for creditor-unfriendly activities like paying dividends to stockholders."

September 17 - Bloomberg (Emre Peker and Krista Giovacco): "Speculative-grade companies are selling leveraged loans at the fastest pace this year to pay for acquisitions and buyouts... as prices of the debt climb to a four-month high... The S&P/LSTA US Leveraged Loan 100 Index rose 0.24 cent to 89.81 cents on the dollar, the highest since May 19. Banks sold or started marketing $13.3 billion of high- yield, high-risk loans slated for takeovers in September, more than any month this year..."

September 15 - Financial Times (David Oakley): "The European repurchase, or repo, market has enjoyed record trading volumes in a sign that the financial system, which came close to breaking down in the aftermath of the collapse of Lehman Brothers, is returning to health. The value of the repo market, considered vital to the functioning of the financial markets, has jumped 25% to €6,979bn from six months ago, beating the previous high recorded before the credit crisis... The new record in outstanding repo volumes in June shows trading in the market has rebounded sharply since December 2008, when it fell to €4,633bn, and surpasses the previous record of €6,775bn in June 2007 - two months before the credit crisis blew up."

September 16 - Bloomberg (Sarah Mulholland and John Detrixhe): "Two years after the bankruptcy of Lehman Brothers Holdings Inc. caused credit markets to freeze, investors are embracing bonds backed by loans to consumers with weaker credit scores as yields approach all-time lows. AmeriCredit Corp... sold $850 million of bonds tied to auto loans in its largest sale in three years after increasing the offering by $150 million. Securities linked to loans to consumers with credit considered subprime account for 20% of asset-backed auto debt issuance this year, double the share in 2008 and 2009, according to Deutsche Bank AG."

September 16 - Bloomberg (Rebecca Christie and Mark Drajem): "Treasury Secretary Timothy F. Geithner said the U.S. isn't satisfied with the pace of yuan gains and is considering ways to urge China to let the currency rise faster. 'The pace of appreciation has been too slow and the extent of appreciation too limited,' Geithner said... 'We are examining the important question of what mix of tools, those available to the United States and multilateral approaches, might help encourage the Chinese authorities to move more quickly.'"

September 15 - Bloomberg (Ben Moshinsky): "Naked short-sales of shares and government bonds would be limited and some over-the-counter derivatives trades forced through clearinghouses, under European Commission proposals to safeguard financial markets. Frequent traders of some OTC derivatives in Europe will be forced to use central clearinghouses to close sales, while naked short-sellers would be required to submit proof they can access the underlying security to settle a trade designed to profit from falling prices, under two separate initiatives..."

Global Government Finance Bubble Watch:

September 13 - Financial Times (Ralph Atkins): "In November last year, Jean-Claude Trichet, European Central Bank president, had a blunt message for bankers and politicians. Addressing the annual European banking congress... he warned emergency measures were all very well, 'but if their use is prolonged, they can lead to dependence and even addiction.' Ten months later, evidence is growing that 'addiction' by banks in eurozone countries such as Portugal, Ireland and Greece to ECB liquidity support remains high, and may even have increased. That is despite the improvement in the global economic climate and the boost to confidence in the eurozone financial system that July's bank 'stress test' results were supposed to bring."

September 13 - Bloomberg (Scott Hamilton): "The financial crisis will accelerate the shift of economic power to emerging economies as their recovery outpaces that of developed countries, the Centre For Economics And Business Research said. Nations in the Organisation for Economic Cooperation and Development will account for 66% of the world's gross domestic product by 2015, compared with 77% in 2004... 'The focus of global economic activity will shift increasingly to countries like China, India, Russia and Brazil and to a lesser extent Mexico, Canada and Australia.'"

Currency Watch:

September 17 - Bloomberg (Ron Harui and Joshua Zumbrun): "Bank of Japan Governor Masaaki Shirakawa's success in weakening the yen may hinge on Ben S. Bernanke. Japan said two days ago it sold yen for the first time since 2004 because the currency's surge to a 15-year high versus the dollar imperiled the nation's export-led recovery. Meantime, pressure is growing on U.S. Federal Reserve Chairman Bernanke to print more dollars to bolster America's flagging economy, a policy that contributed to a weaker greenback in 2009. 'Because of speculation of further monetary easing by the Fed, it may be impossible for Japan alone to turn around the yen-appreciation trend' through unilateral currency intervention, said Hiroaki Muto, a senior economist at Sumitomo Mitsui Asset Management..."

The dollar index declined 1.6% to 81.40 (up 4.6% y-t-d). For the week on the upside, the Euro increased 2.9%, the Danish krone 2.9%, the British pound 1.8%, the Norwegian krone 1.6%, the Australian dollar 1.1%, the Mexican peso 1.0%, the Swiss franc 1.0%, the Taiwanese dollar 0.6%, the Canadian dollar 0.5%, and the Singapore dollar 0.3%. For the week on the downside, the Japanese yen declined 2.0% and the New Zealand dollar fell 0.4%.

Commodities Watch:

September 13 - Bloomberg (Leslie Patton): "Cotton rose to the highest price since 1995 as unusually cold, wet weather hurt the crop in China, the world's largest grower... Orange juice also rose. China's cotton fields are in worse condition than a year earlier... Prices in New York are up 52% from a year earlier..."

The CRB index jumped 1.6% (down 1.3% y-t-d). The Goldman Sachs Commodities Index (GSCI) was little changed (up 0.5% y-t-d). Spot Gold jumped 2.2% to $1,274 (up 16% y-t-d). Silver surged 4.6% to $20.765 (up 23% y-t-d). October Crude fell $2.84 to $73.61 (down 7% y-t-d). October Gasoline fell 2.8% (down 7% y-t-d), while October Natural Gas recovered 3.0% (down 28% y-t-d). December Copper jumped 3.2% (up 5% y-t-d). December Wheat added 0.3% (up 37% y-t-d), and December Corn surged 7.3% (up 24% y-t-d). Elsewhere this week, Sugar surged 8.3%, Cotton 7.4%, Platinum 4.9%, Cocoa 4.5%, and Soybeans 3.4%.

China Watch:

September 15 - Bloomberg: "China's banking regulator may require the nation's biggest lenders to boost their capital adequacy ratios to as high as 15% by the end of 2012, a person with knowledge of the matter said. The regulator is drafting a plan that would call for Tier 1 capital of 8%, with the overall ratio set at 10%... The plan would add a buffer of up to 4% to protect against economic fluctuations, plus a further 1% for 'systemically important' banks... The biggest banks must currently meet an 11.5% ratio."

September 16 - Bloomberg: "China's plan to impose tougher capital rules on banks will slow loan growth to a pace that more closely matches economic expansion, according to Goldman Sachs Group Inc... 'We believe the countercyclical capital buffer, if it is implemented, will have a profound impact on bank lending growth ahead,' ... Goldman Sachs analysts Ning Ma and Richard Xu wrote..."

September 15 - Bloomberg (Masumi Suga and Yasumasa Song): "Steel production cuts by China, the largest maker of the metal, is having a 'big' impact on the market and is boosting prices, said Tokyo Steel Manufacturing... Power restrictions in China may trim steel supply in the nation by 9.6% for the rest of the year... Chinese benchmark steel prices have gained about 13% in the past two months. 'China's domestic prices are going up, and export prices are also rising,' Ohori said. 'The impact of output cuts by mills in China, the largest producer, is big.'"

September 14 - Bloomberg (Christine Richard and Shelley Smith): "China will introduce credit-default swaps by year-end, allowing banks to hedge risk while restricting the contracts to avoid pitfalls the U.S. credit markets experienced over the last several years, according to an official with a state-backed Chinese financial association. China will limit the amount of leverage used in credit swaps and won't permit the contracts to be written on high-risk assets such as subprime mortgages, Shi Wenchao, secretary general of the National Association of Financial Market Institutional Investors, told reporters..."

September 15 - Bloomberg: "Foreign direct investment in China climbed for the 13th straight month in August, even as U.S. and European companies complained of a worsening business environment and government discrimination... Investment in the first eight months of the year expanded 18.1% to $65.96 billion."

Japan Watch:

September 16 - Bloomberg (John Brinsley and Sachiko Sakamaki): "Naoto Kan took less than 24 hours to deliver the 'decisive action' he pledged during a fight to remain Japan's prime minister, selling the yen to stem criticism his response to a slowing economic recovery was inadequate. Kan yesterday authorized the government's first currency intervention since 2004... The action came a day after he defeated a leadership challenge from Democratic Party of Japan rival Ichiro Ozawa, who had pledged to weaken the yen. 'We'll continue to take decisive measures when necessary,' Kan said... 'If rapid yen movements hurt the desire of Japanese companies to invest at home, employment conditions will get worse.' Kan's victory over Ozawa brought political continuity to a country that has seen five prime ministers since September 2007. His immediate policy response suggests a renewed urgency to prevent a strong currency from undermining an economic recovery hampered by a dozen years of falling consumer prices."

India Watch:

September 17 - Bloomberg (Kartik Goyal and Unni Krishnan): "The Reserve Bank of India's five interest-rate increases this year are failing to stem a surge in credit, showing the challenges Governor Duvvuri Subbarao faces in keeping inflation in check as the economy expands. Loans to companies... climbed 36% to 2.1 trillion rupees ($45bn) this year, the most since Bloomberg started compiling the data in 2002."

September 15 - Bloomberg (Tushar Dhara): "India's merchandise exports increased at a faster pace in August amid growing demand for the nation's goods, sustaining pressure for higher interest rates to cool inflation. Overseas shipments rose 22.5% to $16.6 billion from a year earlier... Imports totaled $29.7 billion in August and the trade deficit was $13.06 billion..."

September 14 - Bloomberg (V. Ramakrishnan): "Billionaire Gautam Adani's energy producer and India's state-run rail operator are making this year the nation's busiest for foreign-currency borrowing since 2007 as rupee funding costs rise. Companies from Adani Power Ltd. to Indian Railways Finance Corp. have won approval from regulators to raise $14.3 billion through syndicated loans in the first seven months, compared with $7.6 billion in all of 2009... Companies need funds to expand in an economy that the International Monetary Fund predicts will grow 9.4% this year, almost four times faster than advanced economies."

Asia Bubble Watch:

September 15 - Bloomberg (Eunkyung Seo and William Sim): "South Korea's unemployment rate declined to a three-month low as its economic recovery spurred hiring, adding to the case for higher interest rates. The jobless rate fell to 3.4% in August from 3.7% the previous month..."

September 15 - Bloomberg (Shamim Adam): "Singapore cut its estimate for the unemployment rate last quarter as record economic growth spurred hiring by services and construction companies. The...jobless rate was 2.2% in the three months through June..."

Latin America Watch:

September 15 - Bloomberg (Eliana Raszewski): "Argentines are stepping up purchases of cars and televisions in a bid to beat inflation consumers see accelerating to 25%, the second-highest in the world after Venezuela. Record demand for autos and domestic appliances are fueling economic growth, which Deputy Economy Minister Roberto Feletti estimates at 9% this year, the fastest since 2005."

September 13 - Bloomberg (Andre Soliani): "Brazilian economists see 12-month inflation at 5.06%, according to the central bank's weekly survey."

Unbalanced Global Economy Watch:

September 13 - Bloomberg (Simone Meier): "Europe's economy may grow almost twice as fast as previously forecast this year with a more 'moderate' expansion in the second half, the European Commission said. Gross domestic product in the 16-nation euro region may increase 1.7% this year instead of a previously projected 0.9%..."

September 14 - Bloomberg (Scott Hamilton): "U.K. inflation unexpectedly exceeded the government's 3% limit for a sixth month in August as higher costs of items from air fares to food stoked price pressures in the economy. Consumer prices rose 3.1% from a year earlier, the same pace as in July... The persistence of faster inflation may exacerbate the split on the Bank of England's Monetary Policy Committee..."

September 14 - Bloomberg (Steve Bryant): "Turkey's economy grew an annual 10.3% in the second quarter as record-low interest rates helped push output above the level it reached before the 2008 collapse of Lehman Brothers Holdings Inc."

September 16 - Bloomberg (Jacob Greber): "Australia's economy will grow at close to full speed, driving down the jobless rate to a level consistent with 'full employment,' said central bank Assistant Governor Philip Lowe. 'For the next year I think we'll be travelling along pretty much close to full capacity, but probably just a little under it,' Lowe said..."

U.S. Bubble Economy Watch:

September 14 - Wall Street Journal (Sara Murray): "Efforts to tame America's ballooning budget deficit could soon confront a daunting reality: Nearly half of all Americans live in a household in which someone receives government benefits, more than at any time in history. At the same time, the fraction of American households not paying federal income taxes has also grown -- to an estimated 45% in 2010, from 39% five years ago, according to the Tax Policy Center... A little more than half don't earn enough to be taxed; the rest take so many credits and deductions they don't owe anything."

September 16 - Bloomberg (Courtney Schlisserman): "The current-account deficit in the U.S. widened to $123.3 billion in the second quarter, reflecting a surge in imports. The gap, the broadest measure of international trade because it includes income payments and government transfers, was the biggest since the end of 2008..."

September 16 - Bloomberg (Steve Matthews): "The poverty rate in the U.S. rose to the highest level in 15 years in 2009, underscoring the toll the recession took on the nation and adding fuel to an election- year debate over the Obama administration's economic policies. The proportion of people living in poverty climbed to 14.3% from 13.2%... The number of people classified as poor rose to 43.6 million, the largest number in the 51 years for which the figures have been published."

September 17 - Bloomberg (Courtney Schlisserman): "Confidence among U.S. consumers unexpectedly dropped to a one-year low in September, indicating the biggest part of the economy is being handcuffed by a struggling labor market."

September 15 - Bloomberg (John Gittelsohn and Kathleen M. Howley): "The slide in U.S. home prices may have another three years to go as sellers add as many as 12 million more properties to the market. Shadow inventory -- the supply of homes in default or foreclosure that may be offered for sale -- is preventing prices from bottoming after a 28% plunge from 2006, according to analysts from Moody's Analytics Inc., Fannie Mae, Morgan Stanley and Barclays Plc. Those properties are in addition to houses that are vacant or that may soon be put on the market by owners. 'Whether it's the sidelined, shadow or current inventory, the issue is there's more supply than demand,' said Oliver Chang, a U.S. housing strategist with Morgan Stanley... 'Once you reach a bottom, it will take three or four years for prices to begin to rise 1 or 2% a year.'"

September 16 - Wall Street Journal (Nick Timiraos): "The American dream of owning a home has lost some of its allure after years of falling home prices and owners facing financial ruin. A new survey by Fannie Mae shows the number of people who say they consider housing a safe investment continues to decline, falling to 67% in July from 70% in January and 83% in 2003."

September 15 - Bond Buyer (Ted Phillips): "Parking garages serving the new Yankee Stadium in the Bronx are headed for default on $237.6 million of tax-exempt bonds due to low usage in the face of cheaper alternatives..."

Real Estate Watch:

September 16 - Bloomberg (Dan Levy): "U.S. home seizures reached a record for the third time in five months in August as lenders completed the foreclosure process for thousands of delinquent owners, according to RealtyTrac Inc. Bank repossessions climbed 25% from a year earlier to 95,364, the most since the... data provider began keeping records in 2005... 'We're on track for a record year for homes in foreclosure and repossessions,' Rick Sharga, RealtyTrac's senior vice president, said... 'There is no improvement in the underlying economic conditions.'"

September 16 - Bloomberg (John Gittelsohn): "More than one-third of Americans say it's acceptable under some circumstances to stop paying a mortgage and walk away from the home, a survey by the Pew Research Center found."

Central Bank Watch:

September 14 - Financial Times (Javier Blas): "Gold prices have pushed to a fresh record amid forecasts that central banks will be net buyers of bullion this year for the first time in two decades... The shift marks a turnround after heavy disposals by European central banks over the past 10 years, when gold was seen as a non-yielding unattractive asset. Monetary institutions then swapped their bullion for yielding sovereign debt. GFMS, the consultancy that compiles benchmark statistics for gold, said that central banks would buy about 15 tonnes of bullion on a net basis this year, a situation last seen in 1988."

September 16 - Bloomberg (Kartik Goyal): "The Reserve Bank of India increased interest rates for the fifth time this year and said its actions have brought the 'monetary situation close to normal.' RBI Governor Duvvuri Subbarao boosted the repurchase rate to 6% from 5.75%..."

GSE Watch:

September 16 - Los Angeles Times (Jim Puzzanghera): "Taxpayer losses from the government seizure of failed housing finance giants Fannie Mae and Freddie Mac could reach nearly $400 billion, but likely won't top that level as some had feared, the firms' federal regulator said... To offset some losses, the Federal Housing Finance Agency is seeking billions of dollars in repayment from banks that sold bad loans to the firms, acting director Edward J. DeMarco said."

September 15 - Bloomberg (Dawn Kopecki): "U.S. lawmakers will grapple today with how to end the bailout of Fannie Mae and Freddie Mac after two years and almost $150 billion, and who pays the bill for bad loans made during the housing boom. Regulators who seized control of the two mortgage lenders in 2008 are under pressure to stem losses for taxpayers and recoup money from banks that sold faulty loans to Fannie Mae and Freddie Mac -- all without hindering the housing market's recovery."

Muni Watch:

September 15 - Bloomberg (Dunstan McNichol): "U.S. state pensions such as Illinois, Kansas and New Jersey are in a 'death spiral,' with assets at many insufficient to cover benefits, payouts consuming a growing portion of resources and costs rising twice as fast as investment gains. Less than half the 50 state retirement systems had assets to pay for 80% of promised benefits in their 2009 fiscal years... Two years earlier, only 19 missed the mark. Illinois covered just 50.6% of benefits last year, the lowest so-called funded ratio... In 2007, none exceeded the threshold. The growing burden prompted Colorado, Minnesota, Michigan and other states to trim benefits for millions of teachers and government workers... The largest Illinois pension, the $33 billion Illinois Teachers' Retirement System, paid $3.7 billion of benefits in the year ended June 30, 2009. That's 13% of its assets at the time, up from 8% two years earlier..."

California Watch:

September 17 - Bloomberg (Alison Vekshin): "California's unemployment rate rose to a three-month high of 12.4% in August as non-farm payrolls lost 33,500 jobs... The jobless rate increased from 12.3% in July..."

September 16 - Bloomberg: "China can offer a 'complete package,' including financing, as it competes to build a high-speed railway in California costing more than $40 billion, according to the nation's railway ministry. 'What other nations don't have, we have,' He Huawu, the ministry's chief engineer, said... 'What they have, we have better." He declined to elaborate further on how much financing may be available. California Governor Arnold Schwarzenegger this week rode on bullet trains in China, Japan and South Korea as the state seeks contractors and financing to build the planned network linking Los Angeles and San Francisco. China is competing for the high-speed line and for one in Brazil as it works to boost high-technology exports and pare its reliance on low- wage production."

Speculator Watch:

September 14 - Bloomberg (Marianne Stigset, Francine Lacqua and Meera Bhatia): "Norway's sovereign wealth fund said it's taking advantage of volatility to generate better returns as Europe's largest equity investor adds risk. 'If you look at what has happened during the financial crisis, a fund like ours actually came through it quite well and that to some extent increased our risk capacity and our risk willingness,' Yngve Slyngstad, head of Norges Bank Investment Management, said... 'In a 30-year horizon you are actually paid for taking volatility; volatility for us is actually a good thing.'"

Competitive Monetization

Ireland's 10-year government yields jumped 48 bps this week to 6.29%, with the spread to German bunds jumping to a record 386 bps. Portugal's yields rose 31 bps to 6.07%, the high since near the peak of the Greek crisis back in early May. The European debt crisis remains unresolved. Yet this week the euro gained 2.9% against the dollar and 5.0% against the yen.

U.S. stocks were for the most part content to disregard the reemergence of periphery European bond stress. So far, the current environment seems to differ importantly from the late-April/May period of bond market contagion, de-risking, de-leveraging and global financial market weakness.

It is worth noting that the backdrop going into the Greek crisis was one of rampant speculation. Global risk markets were at the time a full year into a historic rally. Importantly, the leveraged speculators were at the time pressing bets on the "global reflation trade." The world was positioned for a weak dollar and inflating prices for most currencies, commodities and securities markets. Complacency was running high, with the view that global policymakers were firmly in control and that global recovery was assured.

The rapidly escalating European debt crisis, sinking euro (spiking dollar) and dislocation in the Credit default swap market back in late-April caught the speculating crowd positioned poorly for the abrupt reversal in global markets. While there's no way of knowing how the leveraged players are positioned these days, one would assume that the crowd has been dispersed and the amount of risk and leverage meaningfully reduced.

One could argue that policymakers had also succumbed to a bout of complacency earlier in the year. The Federal Reserve and ECB had their sights on reducing stimulus and implementing so-called "exit strategies." Market tumult and attendant recovery fears now have American and European central bankers (indefinitely) focused intensively on quantitative easing and additional measures to assure the markets that liquidity will remain in ongoing abundance.

To this point, contagion effects from Ireland and Portugal have been minimal. I'll assume this is explained by reduced systemic vulnerability to a leveraged community more cautiously positioned coupled with ECB market liquidity support mechanisms. Over recent months, buying from the Chinese and sovereign wealth funds have also bolstered European debt markets. And there is certainly the perception that any development that risks heightened systemic stress would be met head on by Federal Reserve monetization ("quantitative easing"). Recent and prospective dollar weakness has buoyed euro sentiment, which works to restrain de-risking, contagion effects and bouts of self-reinforcing de-leveraging (for now).

At home and abroad, there are indications of extraordinary marketplace liquidity abundance.

Today from Bloomberg: "Speculative-grade companies are selling leveraged loans at the fastest pace this year to pay for acquisitions and buyouts led by Carlyle Group as prices of the debt climb to a four-month high." This morning from the Wall Street Journal: "One of the markets at the heart of the credit bubble has surged back with surprising speed as investors chasing yield are increasingly willing to finance riskier companies. Poster children of the mid-2000s credit bubble, leveraged loans are set to have their busiest year since 2008." Also today from Bloomberg: "Average prices on high-yield debt rose above 100 cents on the dollar yesterday for the first time since June 2007 after falling as low as 55 cents in December 2008..." According to Bloomberg, this week's $41.7bn of corporate bond issuance combined with about an equal amount from last week pushed two-week debt sales to the strongest level this year. With more than three months to go, year-to-date junk issuance is already well into new record territory.

In the face of enormous supply, corporate bond yields have remained extraordinarily low. Investment grade spreads (IBOX) were little changed this week at 104 bps, while junk spreads (IBOX) narrowed 8 to 546 bps. California Credit default swap prices fell 8 bps this week to 284 bps. Emerging market spreads increased 3 this week to 300 bps. Financial Conditions - while susceptible - remain loose.

The Japanese moved aggressively this week to stanch the yen rally. Japanese stocks surged. In China, the talk was of additional government measures to slow Credit growth and to contain mounting inflationary pressures. Chinese shares fell. The Reserve Bank of India raised rates for the fifth time this year (to 6.0%), as it continues to do battle with inflationary pressures. Shares, nonetheless, surged.

Here at home, those arguing that deflation holds sway as the prevailing risk have, for now, won the "debate" both in policymaking circles and in the bond market. All the same, watering down the analysis to some black or white "inflation or deflation" issue misses the complexity of risks today confronting an imbalanced global economy and unstable financial "system." Clearly, much of the world (China, India, Argentina, Brazil, Russia and non-Japan Asia, to mention just a "few") is facing mounting inflation problems. And if global markets don't succumb to another period of de-risking and de-leveraging, it's going to be fascinating to follow developments as global liquidity excess interplays with the robust inflationary biases that have taken hold throughout the "developing" economies/markets.

In the face of this week's Japanese currency intervention and European debt worries, the dollar was notably unimpressive. Momentum building for additional quantitative ease is dollar unfriendly, especially with marketplace liquidity already overabundant. The last thing an unsettled world needs more of right now is additional dollar liquidity flows.

To be sure, prospective Treasury purchases will have much different effects than the Fed's monetization of MBS, GSE debt and Treasurys had back in late-2008. That period's massive expansion of Fed assets was executed in the midst of an unprecedented unwind of leveraged speculations. In particular, the Fed's monetization occurred during the reversal of "dollar carry" trades, where unwind of bearish dollar positions incited a huge dollar rally and liquidity shortage. Moreover, the Fed's ballooning balance sheet back then accommodated speculator (i.e. Lehman, hedge funds, etc.) de-leveraging. It was not a case of massive amounts of new liquidity being unleashed upon global markets.

Going forward, one can envisage a scenario where "QE2" is implemented right into a backdrop of faltering dollar confidence. In such a scenario, Fed-created liquidity just might seek an immediate exit from the dollar - only exacerbating both dollar weakness and general Monetary Disorder. It's reasonable that one facet of such a scenario would have the Japanese, Chinese and other central banks buying/Monetizing an increasingly problematic global surfeit of dollars - creating additional destabilizing liquidity in the process. And, having watched the way things have tended to unfold, I would see a rising tide of Competitive Monetization as a high probability development.

Is the dollar a bigger story than Ireland and Portugal? Perhaps a rapidly rising tide of liquidity has something to do with Gold's run toward $1,300. Such a scenario might also help explain surging prices for silver, copper, wheat, corn, rice, soybeans, cattle, hogs, sugar, cotton, coffee, cocoa, etc. And, for awhile, global liquidity excesses might even continue to inflate global bond prices. But if this is deflation, it's an abnormally strange strain.