Treasury Closing Summary (January 11):

European stocks faded into the close on renewed concerns that another ratings agency could trump Fitch and downgrade France, boosting a German Bobl auction. That helped knock yields lower in the face of a small rebound in U.S. stocks and more heavy corporate and 10-year note supply, which was taken down hungrily by fearful investors. In addition, the NY Fed purchased another batch of long bonds. The euro sank under $1.27 and heavy demand for call structures on U.S. rate futures was contrasted by bearish action on Euribor. The run of dovish Fedspeak was interrupted by some choice protests from Philly Fed's Plosser, while the Beige Book was as bland as its title.

In euro$ interest rate options, heavy demand for bullish OTM "calls" was cited as part of the sharp upside spike in the underlying futures contracts, while sources also note that the dollar bid and euro weakness probably didn't hurt either in supporting the rally. That suggested a safety premium building relative to Europe on France downgrade talk, though increased stress in the region could lead to lower rates there as well, supportive of rate contracts either side of the Pond when coupled with dovish Fed leanings. Underlying euro$s settled 3-4 ticks higher. For more, see Accutic (subscription). the 2-year yield eased another basis point to 0.23%, while the 10-year fell from 1.97% to 1.90%.

Fed hawk Lacker in a mixed piece warned that the greatest vulnerability to Europe was through money market funds. Fed dove Evans endorsed continued accommodation and a more explicit policy framework (i.e. growth and inflation targets). Fed moderate Lockhart said ongoing house price declines suggest we may not have hit bottom. But Fed hawk Plosser: rate hikes may be required before mid-2013. Fed hedge fund accusations continued to circulate after record profits banked, while Republicans rebuked the Fed's White Paper on housing as a wealth transfer.

Fed's Beige Book was a bit more upbeat than prior reports, but in line with expectations. It continued to say the economy expended at a "modest to moderate pace" across most of the U.S. It added that 7 of the Districts characterized growth as modest while the remaining 5 said there was a pick up in growth. Compared to prior summaries, most Districts highlighted more favorable conditions. Consumer spending picked up in most areas, reflecting significant gains in holiday sales versus last year. Manufacturing generally continued to expand, though the pace has slowed for selected subsectors. Agricultural producers and extractors of natural resources reported "generally robust conditions." Activity stayed sluggish in real estate, while commercial real estate generally remained soft but showed some improvement in several Districts. There was a slight pick up in loan demand from businesses. Upward price pressures and price increases remained quite limited, while upward wage pressures were also modest, but a few regions noted "substantial compensation increases for workers with specialized skills."

Treasury's $21 bln 10-year auction auction was strong. The notes were awarded at 1.90%, a new record low, and compares to 1.91% at the bid deadline. Bids totaled $69.0 bln for a 3.29 cover. That falls short of the 3.53 in December but beats the 3.14 average. Indirect bidders took 38.3% versus a hefty 61.9% previously (48.5% average). So far the debt managers are 2 for 2 with its auctions this week.

NY Fed Op-Twist: purchased $2.25 bln long Tsys from Feb 2036-Nov 2041. NYMEX crude sank to $101 bbl, after across-board EIA inventory builds, before steadying. MBA mortgage market index rose 4.5%; purchases +8.1%, refis +3.3% despite a bounce in mortgage rates. USD index rose 0.4% to 81.30, while the EUR stumbled under 1.27 to 16-month lows of 1.2661 before rebounding.

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