MBS MID-DAY: Still Rallying

(Reuters) - Here is a rundown of the final actions in Congress on Tuesday as lawmakers try to rush a deficit reduction deal to the White House that also will raise the $14.3 trillion limit on U.S. government borrowing, just hours before the deadline to avert an unprecedented default. * The Democratic-led Senate set to vote on the deal at noon EDT (1600 GMT). * Senate begins debate on the measure. It is expected to pass. * Senate action comes after the Republican-led House of Representatives approved it on Monday night on a bipartisan vote of 269-161. * U.S. Treasury Secretary Timothy Geithner tells ABC News that the contentious battle over the debt limit and the threat of default had damaged confidence in the economy and that credit rating agencies would "take a careful look" at whether U.S. lawmakers have the will to reduce deficits. * Despite the deal that will increase government borrowing authority through the 2012 presidential election year, Wall Street still worries about a possible downgrade of U.S. credit rating. U.S. stock indices open lower on Tuesday. (Reporting by Donna Smith; editing by Vicki Allen)

It's been an uncommon stretch of time in terms of where the markets focus their attention. After having dominated (clearly) for months, EU-related headlines have been surprisingly hard to find during the rise to prominence of our own domestic debt problems. That's fairly logical, but now that the debt ceiling vote moves closer and closer to its ostensible resolution, it's been easier for markets to pay attention to what's going on abroad (again). So as Italy calls emergency talks to deal with political turmoil and a debt/GDP ratio that is outdone only by Greece itself, the flight-to-safety bid returns, plain and simple. 10yr Yields were as low as the 2.67's this morning but have since corrected slowly back up to 2.71+. It will be interesting to see if we get any support from yesterday's low yields (potential "pivot"). Similar story in MBS where Fannie 4.0's made it as 102-05+ this morning and are currently back down to 102-02+, perhaps testing their own pivot (yesterday's highs were 102-00, so we could lose a few more ticks and still use yesterday's ceiling as today's floor). If that happens, there's no major significance other than to say the market was defaulting to rally mode rather than "wait and see" mode. There''s too much uncertainty surrounding the ongoing resolution of the debt vote as well as Friday's NFP to read too much into the technical movements we might see between now and Friday. Whatever the case, things are good for now. Best rates of the year, best MBS prices of the year.

Federal Reserve officials face two constraints as they prepare for a policy meeting next week amid a dismal economic outlook. First, inflation is already elevated by many measures and could become more so if the Fed takes new steps to revive the economy. And, second, even if they were convinced they should act, officials don't have tools ideally suited to fix the economy's problems. The constraints mean the central bank is unlikely for now to embark on a big new program of securities purchases at the Aug. 9 meeting or launch other major initiatives. "We have to be careful," Charles Plosser, president of the Federal Reserve Bank of Philadelphia, said in an interview. "The notion that we can have a substantial impact on output and employment over the near term is a difficult case to make." "The possibility remains that the recent economic weakness may prove more persistent than expected and that deflationary risks might re-emerge, implying a need for additional policy support," Fed Chairman Ben Bernanke said last month. "The FOMC, in my view, may have to define a supportive policy stance that will be held in place for quite a long period while letting what are essentially nonmonetary policy fixes do their work," Dennis Lockhart, president of the Federal Reserve Bank of Atlanta, said in a speech last week. These nonmonetary policies—like balancing the government's budget—could take "a number of years" to work, he noted. The Fed also could be more explicit about plans for its $2.6 trillion of Treasury and mortgage-backed securities holdings. At some point it will let these holdings dwindle, first by allowing them to mature without reinvesting the proceeds and then by selling them. The Fed could offer clearer assurances that it won't start shrinking the portfolio for a very long time; that could help hold down long-term interest rates.

(Reuters) - Ally Financial Inc's second-quarter profit declined by 80 percent as the lender's mortgage operations lost money, versus a year-earlier profit. Ally Financial -- which specializes in car and home loans -- reported on Tuesday net income of $113 million, down from $565 million a year ago. Ally's mortgage operations reported a $127 million quarterly loss compared with a $230 million profit a year before. (Reporting by Joe Rauch, editing by Gerald E. McCormick)

(Reuters) - U.S. consumer spending unexpectedly fell in June to post the first decline in nearly two years as incomes barely rose, a government report showed, suggesting economic growth could remain subdued in the third quarter. The Commerce Department said on Tuesday consumer spending slipped 0.2 percent, the first drop since September 2009, after edging up 0.1 percent in May. Economists polled by Reuters had expected spending, which accounts for about 70 percent of U.S. economic activity, to rise 0.2 percent. When adjusted for inflation, spending was flat in June after easing 0.1 percent the prior month. The decline came even as gasoline prices retreated from their peak just above $4 a gallon in early May and suggested the much-anticipated bounce back growth in the third quarter would lack vigor. Consumer spending barely grew in the second quarter, inching up at an annual rate of only 0.1 percent -- the weakest pace since the end of the 2007-09 recession. Spending increased at a 2.1 percent rate in the first quarter. That contributed to hold the economy to an anemic growth pace of 1.3 percent in the second quarter. The weak spending in June also reflected tepid income growth after employment growth ground to a near halt in June, with nonfarm payrolls rising only 18,000. Income ticked up 0.1 percent, the smallest increase since November, after rising 0.2 percent in May. Disposable income ticked up 0.1 percent, also the smallest increase since November. But when adjusted for inflation, disposable income rose 0.3 percent. With real disposable income outpacing spending, savings rose to $620.6 billion from $581.7 billion in May. (Reporting by Lucia Mutikani, Editing by Andrea Ricci)