The Day Ahead: Bonds Ignore Another Credit Rating Threat

Moody's threat of a possible downgrade of the U.S. sovereign debt rating late Wednesday is having no discernible impact on the market, but it's certainly sitting in the back of everyone's mind as politicians continue their ideological arm-twisting.

"The dollar, Treasuries and U.S. equity futures initially weakened on the news, but have subsequently pared their losses, convinced that the debt ceiling will be raised by hook or by crook, and a downgrade will be averted," said economists at BMO Capital Markets.

The 10-year Treasury yield has backed up nearly three basis points to 2.914% in early trading, while the two-year yield is one basis point higher at 0.367% and the 30-year Treasury yield is three basis points weaker at 4.208% ( = auction concession for $13bn 30s to be auctioned later). Meanwhile in mortgage land the Fannie Mae 4.0 MBS coupon is 4/32 lower at 100-31.

"Note that the last time the U.S. rating was put on review for possible downgrade was in 1995, during the government shutdown, and it possibly spurred lawmakers into action," BMO added. "While deficit-reduction talks appear to have hit a roadblock - with the President apparently walking out of a key meeting yesterday and Republicans ceding little ground on tax increases - it's possible that the debt ceiling will still be raised even if the talks completely collapse."

Ninety minutes before the opening bell sounds, equity futures are better bid: S&P 500 futures are 3.25 points higher at 1,315 and Dow futures are 20 points higher at 12,442.  A flood of economic data will hit screens this morning...

Key Events Today:

8:30 - The Producer Price Index is expected to show its first negative monthly read in 12 months. June prices are expected to decline 0.3% due to falling energy prices, which are projected to fall 1.8%, led by a near-5% drop in gas prices. With food and energy prices stripped out, 'core' prices are anticipated to rise 0.2% in the month, the same pace as in May. 

"Refined energy product prices fell sharply in June and we anticipate further declines in the next few months reflecting the drop in crude oil prices," said economists at Citigroup. "This is likely to yield relatively low readings for headline producer prices starting in June. We expect that core PPI remained roughly on trend. However, the shortage of motor vehicles due to the supply chain disruptions should result in a temporary pickup in auto prices."

8:30 - Economists are predicting a flat month for Retail Sales in June, following a 0.2% cut in May and a 0.3% gain in April. After last week's stunningly awful employment report, the risk is clearly to the downside, as reflected by the -0.3% to +0.2% range of forecasts.

"The decline mostly reflects lower vehicle sales and lower gasoline prices," said economists at IHS Global Insight. "The autos decline reflects supply chain disruptions from Japan that have finally made their mark on American auto sales. Retail sales excluding autos are expected to decline for the first time since May 2010, thanks to lower gasoline prices which are helping consumers deal with a struggling labor market."

"The consumer is the clear weak link in the US economic chain at present," added economists at Janney Capital Markets. "While corporate investment continues to chug along and exports are growing, the personal consumption - which makes up roughly 70% of all economic output - is held hostage to weak labor market performance." 

8:30 - Initial Jobless Claims fell 14k in the week ending July 2, beating forecasts and helping to mislead the market into an optimistic mood a day ahead of the June employment number. With 414k new claims in the report, weekly claims have now been above the 400k mark for 13 weeks. The four-week average was 424,750. For the period ending July 9, the consensus call is 405k, with a few predictions just under the 400k mark.

Economists at Citigroup aren't in the optimistic camp, noting that as many as 20k public employees in Minnesota might have filed claims as the budget impasse persisted, while the seasonal 'auto retooling' period could add some volatility.

"Initial jobless claims probably rose by 12,000 during the week of Independence Day," they wrote. "Beneficiaries likely rebounded after a quirky seasonal factor-related drop."

10:00 - Business Inventories are expected to grow 0.6% in May, based on the already reported figures from wholesalers and manufacturing inventories. The new data concerns retail inventories, which were likely flat or weaker due to a decline in retail and auto sales.

"Business sales will remain under pressure in May, weighed down by the 11 March Japanese earthquake and uncomfortably high input costs, which have whittled away at business sentiment," said economists at Nomura.

10:00 - Fed chairman Ben Bernanke testifies before the Senate Committee on Banking, Housing, and Urban Affairs at the Semiannual Monetary Policy Report to the Congress in Washington.

1:00 - Treasury auctions $13 billion 30-year bonds. MND's Adam Quinones says this issue is an expensive spot on the curve and to expect strong concessionary efforts to cheapen it up before 1pm bid cutoff.