MBS MID-DAY: Nominal Weakness Following Friday's Rally; MBS Outperform

MBS Pricing Snapshot

* Headline Factory Orders -0.6 pct vs +0.2 pct Consensus

New orders for manufactured goods in April, down three of the last four months, decreased $2.9 billion or 0.6 percent to $466.0 billion, the U.S. Census Bureau reported today. This followed a 2.1 percent March decrease. Excluding transportation, new orders decreased 1.1 percent.

Shipments, down following four consecutive monthly increases, decreased $1.5 billion or 0.3 percent to $473.2 billion. This followed a 0.1 percent March increase.

Unfilled orders, down following twenty-seven consecutive monthly increases, decreased $0.8 billion or 0.1 percent to $985.4 billion. This followed a slight March increase. The unfilled orders-to-shipments ratio was 6.33, up from 6.29 in March.

Inventories, up twenty-two of the last twenty-three months, increased $0.1 billion to $607.2 billion. This was at the highest level since the series was first published on a NAICS basis in 1992 and followed a 0.1 percent March increase. The inventories-to-shipments ratio was 1.28, unchanged from March.

Bond markets traded their first hour of the domestic session in weaker territory and with a a bit of volatility after a series of overnight developments and media headlines are generally giving pause to the two main drivers of the rally. Those 2 key factors are Euro-zone turmoil and the potential for further easing to be announced by the FOMC later in the month.

As we noted in The Day Ahead, there will be ample opportunity for various Fed governors to clarify their position on QE3, including Bernanke himself on Thursday. Not on the schedule this week, Sandra Pianalto was the subject of a Hilsenrath (some consider him the Fed's unofficial press-release department) piece that's making rounds this morning. In it the piece, entitled "Fed's Sensible Center Wants No Policy Shift," Hilsenrath's underlying message is essentially: don't be so sure that the weak NFP = QE3, and cites this center-of-the-road "consensus seeker," as evidence of that. This naturally, would be a big detractor from the portion of the bond market rally driven by QE3 expectations. Even so, we think bond markets would be a bit skeptical.

Then there's the EU news and events so far this morning, which have conspired to its highest levels since May 29th. European peripheral debt spreads--sort of a measure of how catastrophic the outlook is at any given moment--bounced back somewhat in the European session, led by Italy after S&P affirmed it's rating of an Italian bank. There's also some technical bounce back potential considering the past pace of Friday's movement.

More substantively, we have Germany's Merkel meeting with Spain's Barroso, and a German government spokesman saying Spain can decide if it wants to draw on EU/IMF bailout funds. EU's Rehn's comments earlier around 7:25am this morning kept the positive pressure on the Euro, noting that the EU has been considering direct recapitalization of banks via the ESM bailout fund. He also hinted at the morning's hottest topic, a more connected fiscal union among EU states. ECB's Nowotny was on the wires about 40 minutes later supporting the idea of a banking union, and all of the above was kicked off earlier in the overnight session as a WSJ article made rounds suggesting that Germany would be ready for Eurobonds under certain conditions. (read more: Germany Signals Crisis Shift

So basically we have that article serving as the backdrop and overnight events generally suggesting that truth could be just as strange as fiction. Couple that with the "not so fast..." piece from Hilsenrath, not to mention a technical/profit-taking bounce from Friday's aggressive rally, and bond markets are on the retreat so far this morning.

MBS are down 6 ticks in Fannie 3.5's at 105-04 and 10yr yields are up about 6.5 bps currently at 1.5239.

(Reuters) - When Jean-Claude Trichet called last June for the creation of a European finance ministry with power over national budgets, the idea seemed fanciful, a distant dream that would take years or even decades to realize, if it ever came to be.

One year later, with the euro zone's debt crisis threatening to tear the bloc apart, Germany is pushing its partners for precisely the kind of giant leap forward in fiscal integration that the now-departed European Central Bank president had in mind.

After falling short with her "fiscal compact" on budget discipline, German Chancellor Angela Merkel is pressing for much more ambitious measures, including a central authority to manage euro area finances, and major new powers for the European Commission, European Parliament and European Court of Justice.

She is also seeking a coordinated European approach to reforming labor markets, social security systems and tax policies, German officials say.

Until states agree to these steps and the unprecedented loss of sovereignty they involve, the officials say Berlin will refuse to consider other initiatives like joint euro zone bonds or a "banking union" with cross-border deposit guarantees - steps Berlin says could only come in a second wave.

The goal is for EU leaders to agree to develop a road map to "fiscal union" at a June 28-29 EU summit, where top European officials including European Council President Herman Van Rompuy will present a set of initial proposals.