(Action Economics) - 06:57 EST European Fixed Income Update: Bund and Gilt futures have recovered earlier losses and are up on the day, with Bunds outperforming and eurozone spreads narrowing sharply, as investment seems to be flowing back into eurozone bonds after a very successful 5-year Bobl auction. The calendar was mixed. The preliminary reading of full year German GDP showed growth of 3.0% (median same), down from 3.6% last year, but still much stronger than originally expected. U.K. November visible trade deficit meanwhile widened again, after the sharp narrowing in October, as was generally expected, It came in at GBP 8.6 bln, while October's deficit was raised up, to GBP 7.9 bln from GBP 7.6 bln. As of 11:48GMT the March 10-year Bund future is up 24 ticks at 138.96, after falling to a low of 138.50 in early trade. The Gilt contract meanwhile is up 1 ticks at 116.16, up from an earlier low of 115.86. In the cash market the 10-year Bund yield is down 3 bp at 1.85% and the Gilt yield down 1 bp at 2.06%. By comparison the Italian 10-year is down 11 bp at 6.96%, the Spanish down 18 bp, the Greek 50 bp and the Portuguese down 21 bp. So a marked improvement across the board. Meanwhile the DAX was down 0.51% and the FTSE 100 down 0.59% on the day as of 11:36GMT.

06:44 EST Stocks have met some headwinds after yesterday's rally, partly amid market conjecture that strength in today's German 5-year auction partly reflects safe haven demand that in turn might portend weak demand at tomorrow's auctions in Spain and Italy. This view seemed to be reflected in the EUR, as it dropped fairly sharply in the wake of the auction. The auctions due in Italy and Spain are the first of the year in those key, but struggling, eurozone nations. Fitch's remarks yesterday that France should escape a sovereign downgrade this year stole the limelight, but the agency also said that there is a "significant" chance that Italy will be downgraded (unless eurozone policymakers establish a firewall). The FTSE EuroTop 100 is down 0.7%, with losses having picked up as the EUR slid. Aside from the eurozone factors, the warmth from Alcoa's outlook has faded somewhat as Goodyear Tire & Rubber Co since cast a downer in saying that it is experiencing weak global demand. Meanwhile, German 2011 GDP came in at 3.0%, much stronger than feared at one stage, but markets are more focused on Q4's weakness.

06:19 EST European Midday FX Update: Consolidation continued and with the exception of one-off order flows there was very limited directional bias. EUR-USD struggled to break higher and saw no benefit from the healthy German auction and the strong German GDP growth number for 2011, though it met expectations. EUR and GBP underperformed against the commodity bloc currencies. Meanwhile, GBP saw no lasting impact from U.K. trade defict, which corrected October's sharp narrowing as expected. Elsewhere, EUR-CHF continued to find support ahead of 1.2100, while USD-JPY edged back towards 77.00 on Japanese real money demand. See FX Trader page.

06:14 EST The 10-year Gilt yield probed toward 2.10% earlier, since settling near 2.06% (Reuters data). Steady-to-lower stock markets bring some demand back to AAA sovereign bonds. Bund futures gained in the wake of Germany's auction of 5-year paper, and the Gilt 10-year yield spread versus the Bund widened back above 20bp, having been near 15bp at yesterday's open. Today's GBP 3 bln 10-year Gilt auction offset yesterday's latest GBP 1.7 bln round of BoE QE purchases, while today's trade deficit data for November and worsened revision to September's data were moderately worse than markets expected, illustrating the long road to rebalancing the U.K. is on.

05:41 EST Oil Action: Nymex crude traded close to $102 bbl in quiet trade, with prices little changed from Tuesday's levels. There has been limited developments for the energy market in recent sessions. A better risk backdrop has provided a modicum of support in line with other commodities, while equities are also stable after headed higher since the start of the week. Meanwhile, supply risks should continue to provide support on dips, with Iran still a wild card for the market. Capping gains over $103 bbl is some rebalancing related to reweighting of global commodity indices, along with technical account offers.

05:40 EST Good demand and falling yields in German 5-year auction. Germany alloted EUR 3.153 bln of 5-year Bobls with a coupon of 0.75% at an average yield of 0.900%, down from 1.110% in the previous auction in July last year. Bids for the EUR 4 bln on offer amounted to EUR 8.967 bln, and with the Bundesbank holding back EUR 0.847 bln for market smoothing purposes, the official bid-to-cover ratio was 2.8, up from 2.1 in the previous auction. So falling refinancing costs and strong demand, a good sign for Germany's first bond sale of the year.

04:54 EST The U.K. November trade deficit corrected from October's sharp narrowing, as was generally expected, coming in at GBP 8.6 bln in the global figure, while September's deficit was raised upwards, to GBP 7.9 bln from GBP 7.6 bln. The sharp drop in the October deficit was the biggest monthly improvement (from the deficit of GBP 10.2 bln in September) the data series has even seen (since 1998). However, monthly trade data are notoriously volatile and the big October shrinkage came after what had been a sharp widening in the deficit in the month prior. Now the widening in November has suggested that the September-November average reflected a steady underlying trend, with not too much sign of the hoped-fore rebalancing. In today's November data, exports fell and imports of oil and chemicals increased to record highs. Overall, the data won't have a big impact on prevailing GDP expectations and shouldn't affect expectations for the BoE to expand its QE program by GBP 50 next month.

04:37 EST Growth contracted by around 0.25% q/q in Q4, according to the statistics office, which published preliminary full year data for 2011 earlier today. Official data for Q4 won't be available for another month. A contraction in Q4 was expected and is not a surprise, the main question is how long it will last. In our view growth pessimism is currently overdone. The BGA association of wholesalers and exporters also said today that "based on the current sentiment, we can't and don't want to share the economic pessimism that can often be seen". It said wholesale trade will rise to an alltime high next year and that wholesalers will add a further 5k jobs this year, after already hiring 20k last year.

03:48 EST Use of ECB deposit facility rose to new record highs of EUR 485.9 bln yesterday, up from a previous record of EUR 481.9 bln. The surge in the use of the deposit facility confirms that banks continue to park most of the excess liquidity the ECB has pumped into the market with the central bank at a rate of just 0.25%, rather than lending it out. So the monetary transmission mechanism is not fully functioning, which could give a rationale for the ECB to further extent its measures if lending data also continues to decline.

03:13 EST Germany posted GDP growth of 3.0% in 2011, not a surprise after strong data throughout the year, but stronger than originally anticipated after the strong 3.6% y/y growth in 2010. Germany remains the power house of the eurozone, helped by robust external demand, which in turn was supported by structural reforms in recent years. The latter also helped to stabilize the labour market throughout the financial crisis. Looking ahead data suggests a slowdown over Q4 and Q1, although most recent confidence indicators suggest that confidence is bottoming out already and that 2012 growth once again may not be as weak as markets fear. The mild winter weather also means that construction trends over the winter may be better than usually, which would further support seasonally adjusted growth data. The budget deficit under the Maastricht criteria amounted to just 1% last year.

02:09 EST U.K. shop price inflation fell to a 16-month low of 1.7% y/y in December, down from 2.0% y/y in the previous month and down from the cycle peak of 2.9% since last June, according to the British Retail Consortium. A "blizzard of promotions and discounts" into Christmas saw prices for clothes, footwear and electrical items drop. Non-food inflation fell to a two-year low of 0.3%, down from November's 0.8%. Food price inflation was up to 4.2% from 4.0%, but still remained below levels earlier in 2011, and the BRC expects further declines during this year as the impact of lower commodity prices and discounting takes affect. The data is good news for the BoE and U.K. policymakers. The BRC also highlights the considerable base-effect that will be seen in January when the impact of the January 2011 VAT hike drops out of annual data.

02:01 EST Asia FX Summary: Consolidation set in across the FX space, though equity markets continue to hold up amid an encouraging improvement in sentiment, though volumes are much lower than average. EUR-USD marked time on a 1.27 handle, but remained heavy against AUD and NZD on mooted carry trade activity. Eurozone developments remain limited, though reports are doing the rounds that hedge funds are reluctant to agree to a haircut on their Greek bond holdings with the IMF. Eurozone officials continue to push towards fiscal consolidation and growth initiatives ahead of the EU summit later this month. Elsewhere, Japanese data included a fall in the leading coincident index indicator by 1.1 points in November, while the leading indicator rose 0.9 points and Japan's foreign reserves fell to $1.30 tln at the end of December. See FX Trader page.

01:45 EST Asian stocks were slightly higher late on in the session, though the broad MSCI Asia Pacific Index ex Japan was close to flat. Japan's Nikkei closed 0.3% higher, the Kospi lost 0.41% and the ASX gained 0.86%. Profit taking set in after early gains amid investor hopes for more positive corporate earnings from U.S. and China, but eurozone debt woes cast a shadow across the market in low volume trade. China eased 0.4% and the Hang Seng was flat in morning trade, though policy hopes in Beijing continued to put a floor in place. The material sector performed relatively well after yesterday's rally across the commodity market and financials also experienced supportive flows. In Australia, African Iron soared 40% after South Africa's Exxaro Resources made a takeover offer worth up to AUD 338 mln. Losses in S.Korea were due to programme selling ahead of tomorrow's option expiry, which was exacerbated by lower than usual volumes.

18:14 EST South Korean unemployment was steady in December at 3.1% SA, three-year low for the third consecutive month after 3.2% in September. There were 441k more jobs in December than in the same month a year ago, versus a 479k y/y gain in November.

14:30 EST Canadian supply features the GoC 2-year auction on Wednesday, likely to benefit from the lingering safe haven bid and expected continuation of the BoC's patient stance at next week's announcement. C$3.5 bln will be offered of a new bond, maturing May 2014, matching the size of the last 2-year auction on December 7. The bid-cover was 2.53 in December, versus a 2.52 average over the past ten auctions. And the tail was 0.3 bp, also in line with the recent average. The BoC minimum purchase is C$700 mln.

FX Overnight

Consolidation continued and with the exception of one-off order flows there was very limited directional bias. EUR-USD struggled to break higher and saw no benefit from the healthy German auction and the strong German GDP growth number for 2011, though it met expectations. EUR and GBP underperformed against the commodity bloc currencies. Meanwhile, GBP saw no lasting impact from U.K. trade defict, which corrected October's sharp narrowing as expected. Elsewhere, EUR-CHF continued to find support ahead of 1.2100, while USD-JPY edged back towards 77.00 on Japanese real money demand.

EUR-USD was range bound after it made another failed attempt on higher levels. Early demand from an Asian sovereign filled in commercial offers at 1.2770-80, but it fell short of 1.2800, though did spur further short dated EUR call buying. Strikes changed hands from 1.2800 to 1.2850 for Thursday and Friday after more limited downside. This was the theme on Tuesday, which encouraged demand from 1.2900 to 1.3000 over a one week horizon from core shorts that are hedging against a potential short squeeze. For intra-day accounts, EUR still needs to clear stops at 1.2820 and large offers up to 1.2850, otherwise fading rallies will continue. Evidence of EUR long position building remained limited, with investors still looking to park their money elsewhere. Anecdotal evidence suggests investor appetite for yield, which increased since late last week. Australia and New Zealand have benefited and there are reports of selective interest for other emerging markets and Scandinavia.

GBP dipped after U.K. November trade data corrected from October as expected. Overall, there was not a great deal of impact from the U.K. release, with the underlying trend still being influenced by the broad risk backdrop and EUR related flows. EUR attempted to carve a rally again, which helped EUR-GBP, but it is still struggling ahead of 0.8300 due to the weight of EUR outflows from real money and short term accounts. Cable pulled back from 1.5485 and traded at 1.5465 on the U.K. data, but extended losses to 1.5425 after a good sell order, which was related to GBP-AUD. However, the Cable downside has looked more solid this week due to reserve management activity and corporate flows, though the technical backdrop and increased BoE QE risk beyond February is still keeping the pair at the lower end of its broader trading range.

AUD-USD edged higher on good Asian sovereign demand from 1.0290-00 in early trade, while EUR-USD's supportive tone was also a positive lead and lifted AUD back to 1.0325. Momentum is lacking though, with the market struggling for directional leads in quiet trade. Model fund offers remain over 1.0330 and good sell-interest is tipped from propietary accounts from 1.0350, which held on Tuesday. In the absence of other strong leads option strikes at 1.0300 could attract, which has been the case for several currencies since the start of the week. Meanwhile, there was evidence of more interest to buy AUD on dips versus GBP and EUR. EUR-AUD traded heavily under 1.2400 and just a short distance from record lows of 1.2362, while GBP-AUD headed back below 1.5000 on fund selling.

EUR-CHF continued to draw support ahead of 1.2100 option barriers, with local names working corporate interest and speculative accounts buying dips, though upward momentum remains capped ahead of offers from 1.2140 to 1.2160, which have been in place since Monday's resignation by SNB's Hildebrand. EUR-CHF showed scope for more downside pressure after a bearish technical backdrop was reinforced by Hildebrand's decision, but SNB policy remains unchanged and it signaled its intent to defend the EUR-CHF lower limit at 1.2000 in unlimited amounts.

Fixed Income Overnight

European Fixed Income Midday Update

Bund and Gilt futures have recovered earlier losses and are up on the day, with Bunds outperforming as investment seems to be flowing back into eurozone bonds. Spreads have narrowed and the Italian 10-year yield is below 7% once again, after a successful 5-year Bobl auction, which saw falling yields and strong demand. Stock markets meanwhile are little changed on the day.

Meanwhile Fitch called on the ECB to ramp up government bond buying and Italy's Monti warned in a German paper of the possibility of Italian unrest if there are no visible concreate advantages for Italy and protests also against Germany, "which is seen as the ringleader of EU intolerance, and against the ECB". Strong words ahead of today's meeting with Merkel.

As of 11:48GMT the March 10-year Bund future is up 24 ticks at 138.96, after falling to a low of 138.50 in early trade. The Gilt contract meanwhile is up 1 ticks at 116.16, up from an earlier low of 115.86. In the cash market the 10-year Bund yield is down 3 bp at 1.85% and the Gilt yield down 1 bp at 2.06%. By comparison the Italian 10-year is down 11 bp at 6.96%, the Spanish down 18 bp, the Greek 50 bp and the Portuguese down 21 bp. So a marked improvement across the board. Meanwhile the DAX was down 0.51% and the FTSE 100 down 0.59% on the day as of 11:36GMT.

The calendar was mixed. The preliminary reading of full year German GDP showed growth of 3.0% (median same), down from 3.6% last year, but still much stronger than originally expected. The 3% rate implies negative growth in the last quarter of 2011, which the stats office estimated at around 0.25%. Still, Ifo and ZEW surveys seem to have bottomed out and the labour market is holding up very well. In the main scenario growth will pick up again from Q2, after some weak quarters over the winter. Even for the eurozone as a whole there still is every chance that it will be a mild rather than a severe recession, if officials manage to get the financial crisis under control.

U.K. November visible trade deficit widened again, after the sharp narrowing in October, as was generally expected, It came in at GBP 8.6 bln, while October's deficit was raised up, to GBP 7.9 bln from GBP 7.6 bln, still a sharp improvement compared to September, when the deficit blew out. Monthly trade data are notoriously volatile and the renewed widening in November has suggested that the September-November average reflected a steady underlying trend, with not too many signs of the hoped-for rebalancing.

Asia Markets

Asian stocks were slightly higher late on in the session, though the broad MSCI Asia Pacific Index ex Japan was close to flat. Japan's Nikkei closed 0.3% higher, the Kospi lost 0.41% and the ASX gained 0.86%. Profit taking set in after early gains amid investor hopes for more positive corporate earnings from U.S. and China, but eurozone debt woes cast a shadow across the market in low volume trade. China eased 0.4% and the Hang Seng was flat in morning trade, though policy hopes in Beijing continued to put a floor in place. The material sector performed relatively well after yesterday's rally across the commodity market and financials also experienced supportive flows. In Australia, African Iron soared 40% after South Africa's Exxaro Resources made a takeover offer worth up to AUD 338 mln. Losses in S.Korea were due to programme selling ahead of tomorrow's option expiry, which was exacerbated by lower than usual volumes.

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