See link for text:

http://www.federalreserve.gov/newsevents/speech/bernanke20120831a.htm

Prior to 2010 the annual get-together of central bankers at Jackson Hole was
viewed as an interesting occasion for economists to consider the theoretical
issues behind central banking practice. At most it would elicit some
controversy regarding future policy but it was not generally viewed as a key
event on the macro calendar (see attached chart of media mentions of Jackson
Hole 2000 to 2012 - note this chart does not show this week's story count which
is on track to beat 2011). Chairman Bernanke's decision in 2010 to take the
opportunity to usher in QE2 changed all that, but this choice was heavily
influenced by a nasty dislocation in financial markets that threatened to undo
the progress of the initial "Credit Easing" policies of 2008/9.

The state of the world in August 2012 looks very different, with the SPX close
to a 4 year high, long term treasuries close to record lows and corporate bonds
attracting rapacious demand from global investors.

The problem for the FRB is now strictly economic, with unemployment high and
growth sluggish and although this remains a vital goal for the FRB, it is not
one that requires emergency action. Consequently Chairman Bernanke chose to
return Jackson Hole to its "academic roots" delivering a speech that spoke in
detail about past policy and its effects but offered little guidance as to
future policy.

In doing so he took pains to outline the great progress that the policies
enacted since late 2008 have wrought. However, he stopped just short of taking
our advice to "declare victory and head home" since he clearly left the door
open to future accommodation, which no doubt will be debated within the FOMC
rather than preempted in today's speech (as is appropriate). The market's
obsession (or more accurately the obsession of its commentators) with the
possibility of QE3 will now move on the the September FOMC meeting.

Although the speech may have disappointed those looking for specific pointers
on policy it did contain some nuggets of interesting observations. Over the
last decade we have always found Bernanke's public comments to be accurate
pointers to his internal beliefs (unlike those of his predecessor) and
therefore it is worth considering the following short passages:

"Estimates of the effects of non-traditional policies on economic activity and
inflation are uncertain, and the use of non-traditional policies involves costs
beyond those generally associated with more-standard policies. Consequently,
the bar for the use of non-traditional policies is higher than for traditional
policies. In addition, in the present context, non traditional policies share
the limitations of monetary policy more generally: Monetary policy cannot
achieve by itself what a broader and more balanced set of economic policies
might achieve; in particular, it cannot neutralize the fiscal and financial
risks that the country faces. It certainly cannot fine-tune economic outcomes."

The above shows that Chairman Bernanke recognizes the limits of monetary
policy. While he can be expected to keep politically sensitive comments on
fiscal policy to a minimum prior to the election this stance may change in its
immediate aftermath.

"In particular, the FOMC will be able to put upward pressure on short-term
interest rates by raising the interest rate it pays banks for reserves they
hold at the Fed. Upward pressure on rates can also be achieved by using
reserve-draining tools or by selling securities from the Federal Reserve's
portfolio, thus reversing the effects achieved by LSAPs. The FOMC has spent
considerable effort planning and testing our exit strategy and will act
decisively to execute it at the appropriate time."

Over the longer term this may prove to be the most important passage in the
entire speech. Clearly there is no chance of the FRB changing policy direction
in the short to medium term, but the above language suggests that whenever
policy starts to be tightened the FRB will be keen to flex its muscles. Just as
unorthodox policy easing is a matter of "learning by doing" the tightening
process will be a somewhat chaotic.


"Some recent policy proposals in Europe have been quite constructive, in my
view, and I urge our European colleagues to press ahead with policy initiatives
to resolve the crisis."

A timely boost for Mario Draghi, who will be addressing the colloquium
tomorrow. Chairman Bernanke chose to place the FRB firmly behind the ECB
President's attempts to craft a "Euro-fix" in the coming weeks. -
jacksonholestories.gif

Brazil tax collections for July is the latest piece of data to suggest that
Brazil's economy continues to falter. Total tax collections were 87.95 bln BRL,
somewhat below expectations of 92.8 bln (13 out of 14 economists expected
higher collections). This means that July is the second consecutive month where
collections are down on a YoY basis. Although the annual drop remain small at
-2.5% this marks a significant change from the robust growth in receipts of
recent years.

Given the anticipated fiscal measures that seem likely to be applied in the
face of slowing economic activity mean that spending is likely to accelerate
the deterioration in government tax receipts suggests that a significant
widening in the fiscal deficit can be expected to take place in the months
ahead. This is very typical for a fiscal cycle following a lengthy consumption
led boom but it will still come as something of a surprise to most involved
with Brazil's capital markets. - braziltax.gif

The path to a peak in an asset class is typically punctuated by some bizarre
activity but the attached article, which describes the growing trend of
purchasing gold and then burying it in the ground will surely take some
beating. Perhaps only then deciding to water and fertilize the patch of ground
would take us into truly uncharted territory, but readers should be aware that
gold's 12 year bull market has led to some very unconventional investment
approaches towards the metal.

http://www.investmentnews.com/article/20120826/REG/308269988?utm_source=issueale
rt-20120826&utm_medium=in-newsletter&utm_campaign=investmentnews&utm_term=text

In a generally quiet overnight session, the one market price that stood out was
the SHASHR index closing below 2200 for the first time since March 2009. As we
have suggested before, the grinding decline of the local Chinese equity market
is perhaps the most reliable evidence that local liquidity remains heavily
constrained and there is increasing evidence that the modest deceleration in
official economic statistics has translated into a substantial reduction of
corporate profitability. Having finally breached 2200 the danger is that the
local equity market will move sharply lower with the round number of 2000 an
obvious target.

Since China effectively operates separate capital markets for internal and
external capital (barring a limited amount of QFII exemptions), the decline in
the local "A" share market has caused much less disruption to the overall EM
equity complex than would have been the case in a more open market. Performance
of the offshore "H" shares has been poor in recent months, but even so the HSCEI
index is currently at 9674, compared to its March 2009 low of 6403. This means
that the full emotional impact of the Chinese local market's collapse has not
been transmitted to international investors.

To a large extent the decline of China's equity market is a result of the
reluctance of the PBOC to dramatically ease monetary policy. Unlike ourselves,
most observers expected several rounds of reductions in reserve requirements
and interest rates by the end of summer and this fed the optimistic assumption
that China faced a "Soft Landing" (the unicorn of economic analysis).

As can be seen on the attached chart, news stories referencing both China & Soft
Landing peaked in February and March when the first batch of weak data was
released. The refusal of the PBOC to ease policy has caused a sudden absence of
this term in the media (the week ending August 17th only saw 1 instance,
compared to 155 in early February). In our experience, once commentators stop
using "Soft Landing" they start to utilize rather less hopeful terminology to
describe an economy. We continue to believe that China represents a much
greater danger to global sentiment than either Europe or the US at the current
time, particularly for the emerging market and commodity complexes. -
chinasoftlanding.gif - shashrmxef.gif

Given the high quality of recent reports from public homebuilders, it is
unsurprising that the official Census Bureau estimate for New Home Sales is
finally showing persistent improvement in the data. July sales were estimated
at 372K, above expectations of 365K. June's sales were revised 9K higher to
359K but May's sales were revised -10K lower to 372K making revisions a
non-factor. Overall, this pushes new home sales a little closer to the declining
60 month ma, which we have been using as a guide to the recovery in activity.

What is more encouraging than the headline data, is the fact strong reports have
taken place in the key spring and summer seasons. As the NSA sales chart shows
July saw 34K estimated sales, hardly falling form June's level. If the data was
to show a diminished seasonality going forwards, then the headline data could be
expected to get significantly stronger (although overall we would still rather
use actual sales reported by public builders as a guide to the strength of the
market).

One other important point is worth making in today's data. Although overall
inventory remained roughly flat at 142K (4.6 months of sales), the inventory of
COMPLETED units continues to collapse, falling another 4K in July to 38K. This
continues to suggest that builders have allowed the recovery of sales to
outpace the level of construction, which is unsurprising given that most did
not expect to see the robust sales of recent months. This in turn suggests that
the full benefit of the recovery in new home sales has not yet been felt in
broader economic data, but should start to become more apparent in the months
ahead. - D-NHSLTOT_Index.gif - D-HSMNTOT_Index.gif - completedinventory.gif

US initial claims data showed estimated claims at 372K, above expectations of
365K and last week's reading of 368K (revised 2K higher). This takes the 4 week
ma of claims back up to 368K, which is still somewhat below the more elevated
seasons seen in May and June. As can be seen on the attached charts, initial
claims are roughly 9% below their level of a year ago in line with the pace of
improvement seen over the last 18 months.

Although we would not call this pace of improvement exciting, it is persistent
and the most likely path for claims is to fall below the key 350K level at some
point towards the end of 2012. In part this is likely to be caused by a
substantial swing in the effect of seasonal adjustment after Labor Day. We have
attached a seasonal chart of initial claims post 2009 to demonstrate this. As
can be seen claims have shown a strong tendency to decline from September 15th
onwards and we would expect to see this pattern repeated in 2012. Of course the
seasonal chart also demonstrates that constant YoY improvement in the data has
been visible since the summer of 2009, underscoring that we have been in a
steady period of diminished lay-offs over this period of time.

Of course non-farm payroll data and the related unemployment report have
followed a much more erratic path over the last 3 years with Q2 2012 being a
particularly poor period for the payroll data. The latter dominated discussion
at the recent FOMC meeting, which took place before the better than expected
July payroll report (a fact noted by St Louis Fed President Bullard this
morning) and it is probably the August payroll report which will sway the FOMC
towards or against a further round of QE. Nevertheless it is worth considering
the fact that initial claims show a much steadier rate of improvement and
although less firings does not in itself guarantee more hirings, we do suspect
that recent payroll reports have understated the improvement in the employment
environment. - initialclaims.gif - initialclaimsseasonal.gif

It is starting to look as if the Refi-boom of 2012 is drawing to a close. The
MBA refinance index fell to 4609 this week and although this keeps the index in
"boom territory" the shape of the chart suggests that over the next month or so
activity can be expected to fall back to more normal territory as the pool of
refinance-able mortgages becomes diminished.

This in turn suggests that the demand for US treasuries from MBS holders can be
expected to taper off considerably going forwards and will start to become
selling pressure should yields continue to move higher and refinance activity
decline. We have commented many times before on the way in which MBS duration
hedging greatly enhances the swings in treasury yields through a refinancing
cycle, adding to demand for treasuries during the decline in yields and then
creating selling pressure as yields back up. With the long end of the curve
already under some pressure from a modest recovery of risk appetite, there is a
possibility that we see the sort of yield surge that occurred in 2009 and 2010.
Certainly a 10 year treasury yield of 1.75% would seem to be a very
uncomfortable bedfellow with an SPX at a 5 year high and our increasing belief
is that it is the former that will prove to have been mispriced. -
D-MBAVREFI_Index.gif -

US existing home sales for July remained close to their level of recent months
underlining the extent to which we have reached an equilibrium between buyers
and sellers in many regional markets. In recent months, financial investment
demand for housing as a rental yield play has become increasingly dominant in
the existing home market and as a result, the pace of sales is now governed as
much by the speed of the foreclosure and title transfer process as true changes
in demand.

This would suggest that total sales will remain around the 4.5mm level for the
next few months, with single family homes representing around 4mm of this
number. We may see some improvement in the data as fall turns to winter since
financial investors are much less likely to be deterred by a worsening of
weather conditions than a traditional buyer of a home, and thus seasonal
adjustments may show a surge in activity later in the year that really reflects
a steadier balance of demand than normal between summer and winter months (and
thus a higher total level of sales over a 12 month period).

Overall, this strikes us as a healthy state of affairs. Housing sales are
currently around the level of the late 1990's, prices have stabilized at very
affordable levels and inventory continues to be absorbed although they remain
at a historically high level of 2.1mm for single family homes (with a
substantial amount remaining in "shadow" inventories).

In the condo market, things have progressed a little further and the inventory
level has fallen back to the point at which the entire post 2005 build-up has
been absorbed. Total condo inventories for July were 303K, a drop of 37% from
July 2012. The trailing 12 month ma for inventories is 313K, the lowest level
since July 2005. As a result we should start to see reports of tightness in a
number of regional condo markets in the months ahead, with rising prices and
new construction being even more obvious in multi-family sales projects than
single family homes. - D-EHSLSL_Index.gif - M-ECSLHAFS_Index.gif -

Yesterday's session saw the NDX index mark a new 12 year intra-day high of
2802.91 before reversing to close slightly lower at 2772.20. Powering this gain
was AAPL's surge to a new all time high of $674.88, forcing its market cap up
to a remarkable $615 bln at the closing price of $656.02.

Almost by definition the anointment of a new global leader in market cap is a
sign that investor enthusiasm for a stock and associated thematic has reached a
mature phase. It does not however mean that an imminent correction is required
or preclude further gains (although it does of course require ever greater
amounts of capital). What is interesting about AAPL's surge over the last 5
years is that it has come at the expense of a number of large technology
companies that have been caught wrong-footed by the companies wave of
innovative products and services. This is quite different to the emergence of
the large technology bellwethers in the late 1990's that did so as part of a
group (the same could be said of energy stocks or emerging market stocks in the
mid 2000's).

The attached chart compares the market caps of AAPL, RIMM, NOK, DELL & HPQ
since the launch of the original iPhone in January 2007. As can be seen that
launch took place in the latter stages of a 5 year recover for technology
stocks that peaked in October 2007. At that time the combined market cap of
these 5 stocks was $595 bln and was broadly distributed with AAPL at $165 bln,
NOK $156 bln, HPQ $133 bln, RIMM $69 bln and DELL $69 bln.

Almost 5 years later the total market cap of this group has grown modestly to
$690 bln but is now utterly dominated by AAPL at $615 bln. The remainder is
made up by HPQ $39 bln, Dell $21 bln, NOK $10 bln and RIMM $3 bln. Thus the
vast majority of AAPL's explosive run up can be said to have simply come at the
expense of its closest rivals in phone and PC manufacturing.

We recognize that we are making a gross simplification in this study but our
general point is that AAPL's stunning gains has been much more a story about
ripping business opportunity from its rivals (and hence attracting investor
flows) than the sort of bubbly enthusiasm that ended in disarray 12 years ago.
We have not particular view at the attraction of AAPL at the current levels (we
leave that to those better qualified in such matters), but we would not make
the mistake of using the run up of its stock to declare the US equity market to
be a hot-bed of speculation. - aaplndx.gif

The SPX index has managed to move up to a new bull market high this morning,
thus bringing to a close the draw-down that started in April. Compared to the
declines of 2010 and 2011 this proved to be a relatively shallow and short
lived affair and provided further progress is made, it will probably be
considered to have been a period of consolidation rather than a true correction.

This is not only true in terms of the depth and length of the overall decline
but also its breadth. The largest number of new lows registered in this decline
was 35 on June 1st 2012. This compares with 280 issues hitting new lows on
October 4 2011. Even so, investor sentiment suffered as greatly in 2012 as it
did in the prior two years, using the AAII index as a rough proxy. As the
attached chart shows the "Bulls minus Bears" spread was as low as -22 in May
2012, comparable to the levels reached in May, August and September 2011, while
the 10 week ma of this spread (a more reliable indicator) reached -10.8 in July
2012, compared to -10.5 in October 2011 and -11.4 in September 2010.

This degree of investor concern was never warranted by the actual decline of
the SPX index, but would appear to be a result of retail investors remaining
"conditioned" to expect every shallow decline to be a harbinger of a deep and
long lasting correction. We view this skittishness to be understandable, but
also quite bullish, since advances made in the absence of broad enthusiasm tend
to be more reliable than those resulting from an excess of retail fervor. -
spxhilo.gif - aaii.gif

The summer of 2012 has been a brutal one for those betting on the imminent
break-up of the Eurozone and/or the default of member countries on their
sovereign obligations.

To our eyes this always looked like a trade that was at best ahead of its time,
with the soaring rate of CDS spreads more a reflection of macro funds crowding
into the trade than a genuine signal that something dramatic was about to
happen.

As can be seen on the attached chart, the initial surge in CDS rates started in
Q2 2010, but was concentrated at that time in the marginal credit of Greece,
Portugal and Ireland. 2011 then saw this concern spread to Italy and Spain,
while by Q4 2011 a third group of nations including France, Belgium and Austria
were widely argued to be in danger of following suit.

For this higher quality group of credits, the launch of the LTRO proved to be a
turning point and effectively placed a cap on both yields and CDS spreads.
However, true progress was not really made until the end on May 2012 when
spreads started to trade sharply lower. In recent weeks, this has turned into
something of a rout with all three CDS rates now lower than their corresponding
levels of a year ago. Although the pre-crisis level of 50 may prove to be out
of reach a CDS rate below 100 has already been achieved by Austria and looks
likely to be reached by the other two nations.

Meanwhile in the problematic group of Portugal, Spain, Italy and Ireland, a
similar abrupt improvement has started to take place. Spain, Italy and Ireland
are all starting to make moves towards the 400 bp level (in the case of Ireland
a dramatic improvement from the level of a year ago). The 400 level could be
used to approximate a "crisis" spread level, with 200 being the upper limit of what
could be termed a "functioning" market. Portugal remains far above this level
at over 700 bp, but again the direction of the rate is sharply lower.

Clearly we are dealing with illiquid markets during a summer notable for an
absence of fresh committed capital, but the fact that losses from sovereign CDS
have been generated at a time that global equity markets have pushed higher
must increase the pressure on those with concentrated "Euro-crisis" portfolios
to consider a considerable reallocation of investments. - pisicds.gif -
fabcds.gif

One of our stronger beliefs in recent months has been that monetary tightness
and economic deterioration in India would start to undermine local demand for
physical gold. Recent data from the World Gold Council (see attached story)
would seem to suggest that our thinking has been along the right path, with a
substantial drop in physical imports in recent months. This drop is very much
against expectations at the start of the year when most observers projected
further robust growth of Indian demand.

On the surface the obvious catalysts for a collapse in demand has been the
sharp decline in the INR, which has substantially increased the costs of gold
for local buyers. On the other hand, as can be seen on the attached chart, the
INR cost of gold rose by 4.5 times between 2005 and 2011 and this only served
to stimulate buying activity (demand for financial assets typically exhibits
inverse elasticity). It would therefore seem that a shortage of local buying
power rather than a surge in price is the real force behind the shrinkage of
demand, and this is a much more troublesome force for gold bulls to contend
with. With the RBI in a hawkish mood, Indian demand can be expected to continue
to disappoint.

Thus far the USD price for gold has held steady in the face of waning Indian
demand. This is a reflection of the stubborn demand from macro funds that have
embedded gold at the heart of the "Eurocrisis trade" which has become an almost
universal consensus in this area, and also relentless flows into "safe haven"
assets from retail investors. As we discussed last week there are growing signs
that the "Eurocrisis trade" has overstayed its welcome while the surge in long
dated treasury yields suggest that some flows have started to exit the "safe
haven" arena. Thus far gold's USD has remained trapped in a tight range but it
become less and less obvious where the incremental demand is going to be
generated to allow its price to break upwards.

+------------------------------------------------------------------------------+

Gold Imports by India Fall 56% as Record Prices Deter Buyers (2)
2012-08-16 10:38:51.860 GMT


(Updates prices in sixth paragraph.)

By Swansy Afonso
Aug. 16 (Bloomberg) -- Gold imports by India, the world’s
largest bullion buyer, slumped 56 percent in the second quarter
after record prices discouraged jewelry buyers and investors,
according to the World Gold Council.
Overseas purchases plunged to 131 metric tons in the three
months ended June 30 from 301 tons a year earlier, the producer
funded group said in a report today. Demand for jewelry dropped
30 percent to 124.8 tons, while for coins and bars for
investment it slid 51 percent to 56.5 tons, it said.
Bullion futures in India rallied to a record last quarter
even as global prices declined 4.3 percent, as the local
currency slumped to an all-time low against the dollar. Global
gold demand fell 7.1 percent in the April-June period to 990
tons because of higher prices and concerns about economic
growth, the council said.
“With the economy slowing down, consumers tend to hold on
to cash,” Ajay Mitra, managing director, India and the Middle
East at the council, told reporters in Mumbai. “The worst is
over and there is going to be a recovery in demand because of
the festive season,” he said.
Asia’s third-largest economy expanded 6.5 percent in the
year ended March 31, the slowest pace since 2003, and the rupee
declined to a record of 57.3275 per dollar on June 22, making
imports costlier. Jewelers held a strike in March and April to
protest government taxes on imports, further trimming demand,
the council said.

Weak Monsoon

Bullion for immediate delivery was little changed at
$1,603.88 an ounce at 4 p.m. in Mumbai. The October-delivery
contract climbed 0.2 percent to 30,064 rupees ($538) per 10
grams on the Multi Commodity Exchange of India Ltd.
Gold demand in India may climb starting next month with the
beginning of major festivals, council’s Mitra said. Consumption
may total 688 tons to 700 tons this year, compared with 933.4
tons in 2011, he said.
Below-average monsoon rain this year has stoked concerns
about rural jewelry demand, given people’s dependence on farming
and the potential impact of a poor harvest on income levels, the
council said.
The monsoon rains, which account for 70 percent of the
country’s rainfall, were 15 percent below a 50-year average, the
worst in three years, the India Meteorological Department said
yesterday. Rural areas represent about 60 percent of gold buying
in India, according to UBS AG.
Gold consumption in India fell 7 percent to 933.4 tons in
2011, while imports were a record 969 tons, according to the
council.

For Related News and Information:
Top Stories: TOP<GO>
Top commodity reports: CTOP <GO>
Top metal and mining stories: METT <GO>
Metals page: METL <GO>

--Editors: Thomas Kutty Abraham, James Poole

To contact the reporter on this story:
Swansy Afonso in Mumbai at +91-22-6120-3648 or
[email protected]

To contact the editor responsible for this story:
James Poole at +65-6212-1551 or
[email protected]

- goldusdinr.gif

During our short trip to Brazil we viewed the release of US economic data from
afar and were pleased to see that on balance, the June and July data continued
to match or exceed expectations. Since much of the data has already been widely
discussed we won't add our retrospective commentary other than to point out
that our stout defense of retail in the face of weak official Q2 data proved to
be justified, that employment data would seem to be improving and that housing
data is now unequivocally positive.

The effect of the overall improvement of data can be seen on the attached
charts of the Citigroup Economic Surprise Index. This has risen sharply from
-65.30 on July 19th to -19.7 today. As a result the 50 day ma has started to
move back towards positive territory and as can be seen, changes in direction by
this measure tend to be a reliable indicator that the data-cycle has shifted
direction.

Moreover the post crisis seasonality of the data always made it likely that a
turning point would be reached around this time. As can be seen on the seasonal
chart the 2012 data cycle is roughly in the middle of the 2010 and 2011 cycles,
both in terms of timing and intensity.

The one big difference between 2012 compared to the other two years is the mild
reaction of the US equity market to the deterioration in US data earlier this
summer. This was very much in line with the argument we made a few weeks ago
when data first started to deteriorate. Mid-cycle deteriorations in data tend to be
much less harrowing than those at the start of cycles (when data points to the
possibility of a "double dip" - see 2010) or the end of cycle (when things
really are starting to fall apart - see 2007).

Based on prior observations we can expect US data to continue to come in above
consensus expectations (which were helpfully trimmed a few weeks ago). This should
remain the case until the CESIUSD is back into substantially positive territory.
Interestingly, recoveries from "mid-cycle" data collapses (such as 2004 and
2005) have seen the SPX bounce during the "data recovery" phase. With the SPX
tantalizingly close to challenging its post-crisis high, a swing in the
data-cycle may prove to be an important factor in deciding whether the market
can break out or must undergo a further period of consolidation. -
cesiusd50day.gif - cesiusdseasonal.gif - cesiusdspx.gif

As promised we have been monitoring the use of the term "Fiscal Cliff" to see
if its reaches the level that could be termed obsessive. Looking at the
attached chart you can see that we are well on our way to such an outcome, with
the week ending August 3rd seeing a record 512 mentions.

To put this in perspective use of the term "debt ceiling" topped out 4182
articles on w/e July 29th 2011, while the term "LIBOR" popped up in over 1000
articles in October 2008 and 993 articles on w/e July 20th (interest has since
rapidly receded to 534 articles).

A level of 512 articles suggests that this has become a major topic of
conversation but not yet a truly dominant one. On the other hand, we still have
3 months to go to the election and over 4 months until the "cliff face" will
actually have been reached. We would therefore expect substantially higher
readings in the weeks ahead.

As can be seen this surge in "Fiscal Cliff" usage has had little effect on the
US equity market. Perhaps this is because at present none of the stories do
anything other than rehash the well understood fact that a deadline for
renewing tax cuts exists and there has been little new indication as to how
this will be resolved. In general however to the extent a topic is discussed ad
nauseam its ability to deliver a true surprise becomes diminished. While not
ruling out the possibility of this issue leading to market disruption later in
2012, it would seem that the risks attached to taxation policy are being given a
thorough airing in the media at the present time. - fiscalcliffwatch.gif

The final piece of China's major economic data for July is that of money
supply, which was also released last night. Once again the difficulty in
turning tight monetary conditions into loose ones (we would note that although
the market would like the latter it is unclear whether Chinese officials have
embraced this as a goal) via incremental actions can be seen in the data.

Narrow money, as measured by M1, continues to stand out as being very
restricted, with a YoY growth rate of 4.60%. This compares with an 11.56%
growth rate a year ago and a peak growth rate of almost 39% in January 2010.
Indeed total M1 actually shrank in July by -0.67%, for the 4th time in the last
year. Broad money (M2) also shrank in July by -0.64% (the 2nd time in the last
12 months) but on an annual basis continues to grow at a more punchy 13.9%.
Underlining July's tight monetary data was New Loan growth, which fell to 540.1
bln from 919.8 bln in June. This was well below expectations of 700 bln.

Again on an annual basis new loan growth remains quite high at 16% (although
well below the near 35% growth seen in 2010) and has been near this level of
growth for several months (suggesting loan growth has become an object of
official policy). What is notable is that a steady rate of loan growth has not
translated into steady growth of narrow money. As a result the size of Chinese
loans outstanding to M1 continues to rise rapidly reaching a new 13 year high
of 2.126 (lower line on chart). We view this as evidence that the transmission
effect of credit growth into overall money supply has diminished substantially
in recent months, another headache for the increasingly beleaguered PBOC. -
chinamoneydatajuly2012.gif

We made the argument several months ago that China's trade activity was
starting to bump its head against the law of large numbers making its annual
growth rate an increasingly hard act to maintain.

July's data certainly bears this out with export growth slowing to 1% (versus
8% consensus) and imports to 4.7% (7% consensus). Although trade data is very
volatile month to month, there has been a clear trend in place of slowing
activity for several quarters (see chart). We would not rule out a bounce-back
in August data, but we would still expect to see a flat-lining of activity at
best.

Much of the attention on the data has understandably focused on a collapse of
exports to Europe, which have fallen -16.2%. On the surface this points to a
collapse of demand in Europe but one does need to remember that the trade data
is valued in USD and that the $/€ rate has fallen by about 14% over the last 12
months. Therefore drops of -18.4% in exports to Germany or -14.9% to
Netherlands are largely explained by currency. On the other hand a -35.8% drop
in exports to Italy suggests genuine demand destruction. Exports to the UK,
which are sensitive to the £/$ rate fell only -4.2%.

We therefore would not draw too many conclusions about European economic
conditions from the data but even allowing for currency distortions, Chinese
export growth was flat to negative across much of its trading relationships.
This has important ramifications for fiscal stimulus, since simply investing in
new ports or transport infrastructure will lead to greater idle capacity rather
than an acceleration of trade.

Import growth also disappointed at 4.7%, again clashing with other data
suggesting much higher growth rates for Chinese economic activity. With so much
of China's data being massaged into smooth trends, we respect the fact that
trade data has always been allowed to bounce around from month to month. This
makes it hard to trust on a monthly basis but also means that a clear trend
should be respected as a signal that something is changing, in this case for
the worst. - chinatrade.gif

Indian Industrial Production data continues to suggest that the industrial
portion of the Indian economy is in the midst of an abrupt and powerful
slowdown.

Overall industrial production fell by -1.8% YoY in June taking the trailing 12
month ma down to 1.3%. This is the 4th month over the last 12 which has shown
negative growth. Looking under the surface it is clear that the Manufacturing
sub-sector is bearing the brunt with June's data slipping -3.2% YoY. Behind
this is a dramatic shrinkage in Capital Goods of -27.9% YoY, which takes the
trailing 12 month ma down to -11%. As the attached chart shows this is a worse
rate of shrinkage than was experienced in the post-Lehman crunch of 2008/9.
Given the highly cyclical nature of capital goods and the traditional reliance
on borrowed capital in this activity it would seem that this portion of the
economy has been greatly troubled by both over-production earlier in the cycle
and the tightening of local credit conditions.

Thus far the retail portion of the economy has held up tolerably well although
it is starting to show signs of a decline in growth rates. July car sales for
instance fell -7.88% to 143K in July from June. This still keeps them 7.3%
ahead of July 2012 (when car sales were very weak) but it is starting to look
as if the very strong sales in Q1 2012 absorbed a great deal of latent demand
within the Indian automobile market.

In summary we continue to believe that the economic risks within the Indian
economy are substantially greater than most observers realize and the
recalcitrance of the RBI to ease monetary policy (caused by legitimate fears
over inflation and the INR) only serves to raise our concerns. - indiaip.gif -
indiacaptitalgoods.gif - indiacarsales.gif

The balance between Chinese Real Estate built and sold continues to suggest
considerable overbuilding is taking place although official data has shown some
improvement in the drop-off of sales activity. YoY sales by floor space fell
-7.5% in July, compared to -11.2% in June and +12.9% in July 2011. Statements
from public homebuilders back up the notion that demand improved somewhat in
the second quarter in response to policy easing, but although this may seem
encouraging real estate booms take a long time to die and typically enjoy
several short term bounces in activity on the way down.

Real estate construction completed grew 19% YoY in July, compared to 21.1% in
June and 12.7% in July 2011. This number still needs to fall significantly to
come into line with sales, unless developers are able and willing to hold ever
greater quantities of unsold inventory and the wide negative spread between
Sales and Completions demonstrates this. This data rose to -26.5% in July,
compared to -26.5% in June and +0.2% in July 2011. - chinare.gif

China's economic statistics for July continue to suggest a cooling economy,
although one that still reports growth numbers far faster than any other major
emerging market. As such we really only worry about the direction of data, as
the numbers themselves are the result of a political as much as a statistical
process.

CPI for July was estimated at 1.8%, dropping from 2.2% in June. This was
slightly higher than consensus estimates of 1.7% but at the current rate
reported inflation will not itself be an encumbrance to further easing.
However, it should be noted that public comments by Chinese officials have
tended to reflect a concern about asset price inflation (particularly housing)
rather than CPI and it also should be expected that a rebound in agricultural
commodity prices will feed back into CPI later in 2012.

As for the economic data released last night, the steady downtrend in reported
Industrial Production continued. YoY this increased 9.2%, lower than the 9.5%
reported last month and the 9.7% estimated. This is the lowest reading since
May 2009, although we suspect it still overestimates actual Chinese industrial
activity. One thing we would note is a growing reliance on automobile
production in the data, at a time that the Chinese auto market is showing signs
of overproduction.

Retail sales moderated to 13.1% and fixed asset investment remained flat at
20.4%. The latter (if correct) is clearly well above the potential for new,
economically productive capacity at this point in the cycle and would suggest
that idle plant and machinery together with vacant real estate continues to be
created at a steady rate.

It is notable that the data came as little surprise to the market, which has
discounted the possibility of a modest Chinese slowdown. However, a greater
degree of economic distress (which if it occurs is more likely to be visible in
corporate earnings than official data) would not be tolerated nearly as
quietly. - chinacpi.gif - chinaipretailfai.gif

In our lengthy discussion about the possibility of a "Euro-fix" in the summary
of this morning's Weekly Speculator, we included a chart of the Bloomberg
Eurozone Financial Conditions Index, which has improved considerably in recent
weeks.

It is also worth paying some attention to its US counterpart (BFCIUS Index),
which this morning moved up to a new 52 week high of 0.245. This means that US
financial conditions (as measured by this index - see FCON <go> on Bloomberg for
details) are slightly better than normal at the current time and are at their healthiest
level since the start of the Euro-crisis last July. As can be seen, US financial
stress was never really an issue during the current round of the crisis, with
the index never falling below -0.92 (recorded on June 1), keeping the measure
within 1 sd of normal. Key factors in this were the relative solidity of the
SPX index and low level reached by the VIX.

Perhaps more surprisingly given the collapse of long term treasury yields,
corporate bond spreads to treasuries, even at the low end of investment grade
stayed tight. The Baa/10 year spread for instance is currently 326 bp, compared
to a level of 337 bp at the end of 2011, during which period the 10 year note
yield has fallen from 3.29% to 1.87%.

With this as a backdrop, it is increasingly hard to understand the continued
calls for QE3, at least from market participants. Politicians and Fed Governors
may fret about the unemployment rate (which unfortunately is something that
quantitative easing has little bearing upon) but the message of financial markets
is that there is quite enough liquidity being provided by the FRB at the
current time in the arena in which monetary policy can be expected to have its
greatest effect. - bfcius.gif

After growing by a very powerful $16.6 bln in May consumer credit growth slowed
to $6.45 bln in June, a little lower than consensus expectations of $10.25 bln.
This number does tend to bounce around on a monthly basis (it should be
remembered that the monthly change in total consumer credit is never more than
tens of basis points of the total outstanding) but has averaged a little over
$10 bln a month over the last year.

At the current pace of growth the July 2008 all time high for outstanding
credit ($2,583 bln) should be passed in July 2012. Up until this point the vast
majority of the recovery in outstanding credit has come from non-revolving
credit. June proved no exception with non-revolving credit growing by $10.15
bln (exactly in line with its trailing 12 month average) while revolving credit
shrank by -$3.6 bln. This keeps the annual growth rate for revolving credit
just above zero at 0.67%. Although this is below the growth rate seen in
earlier recoveries it is still a large improvement on the sharp annual
draw-down of almost 10% seen in early 2010.

The US consumer would appear to be at the point of supplementing cash and
savings with consumer credit usage for retial sales but this process cannot be
said to have begun in earnest. One possible (benign) cause of delay in the pick
up of consumer credit is the current refinancing boom, which may have started
to free up substantial marginal income for home-owners. In any case the decent
June and July sales announced by public retail companies suggests that
revolving credit growth would be accretive to overall retail activity but not a
requirement. Similarly very low consumer credit delinquency rates suggest that
consumers are far less overstretched than they were 4 or 5 years ago after many
years of rapid credit build-up. - consumercredittotal.gif -
revovingcreditjun12.gif

The monthly JOLTS survey of US job openings continues to support the notion of
a steady recovery in US employment opportunities. June's report showed total
job openings of 3762K, which is the largest number of openings since the summer
of 2008. Although this data is very jerky from month to month its trend is
unambiguously positive, with the trailing 12 month ma rising from almost
exactly 3000K openings in June 2011 to 3490K in June 2012. This is equivalent
to the level reached in September 2004 during the last economic recovery.

It should be recalled that the June 2012 Non-Farm Payroll report showed a very
disappointing 73K of Private Sector job additions, causing a significant degree
of angst at the time. This data was contrary to both the ADP Payroll and
Initial Claims reports issued for June and now has been further contradicted by
the JOLTS survey for this period. We would not claim that we are in a hiring
boom in the US at present, but the notion that employment conditions
deteriorated meaningfully in the second quarter is simply not borne out by the
complete set of employment data. - joltsjun12.gif

Swiss National Bank Reserves were boosted by a further 41.40 bln CHF to reach
406.5 bln CHF in July, a gain of 11.34% for the month. Reserves have now risen
by a total of 224 bln CHF over the last 12 months, an increase of 123%. To put
this in perspective this gain is approximately one third of the size of the
entire QE2 easing and around 20% of the size of last year's infusion of
liquidity by the ECB, in a country, whose total GDP (approximately $630 bln in
2011) is a fraction of the size of these two economic areas. Clearly
Switzerland is "punching above its weight" as far as global liquidity provision
is concerned.

Unlike the US and Eurozone, employment has not been a spur for the SNB
hyper-activity. Indeed Swiss unemployment for July came in at 2.9% (using the
seasonally adjusted data) which is in the middle of its range for the last
decade and a rate other developed nations can only look upon with envy. Thus
far the main price distortion has not come via CPI, which remained in negative
territory in July (see chart). Instead this liquidity has largely been trapped
in the local treasury market where yields are negative through a 5 year
maturity whereas one year ago, all yields were positive (see chart) and the
local property market which is dancing on the edge of bubble territory (see
comment last week).

While the latter is clearly a domestic issue, the depression of Swiss sovereign
yields creates the appearance of "value" in other treasury markets, thus acting
to depress short to medium term yields elsewhere. For as long as the EUR/CHF
remains pinned at 1.20 (a level that would have been crushed months ago without
SNB intervention) this process of liquidity creation will continue. Again the
possibility of (at least a medium term) "Euro-fix" is intriguing, since it may
allow the SNB to halt this highly distortive activity in the months ahead. -
swissreserves.gif - swisscpi.gif - swisstreasury.gif

Over the past couple of weeks a framework for cooperation between
Euro-governments and the ECB has started to emerge that could potentially
repair the fractured confidence in certain Euro-sovereign markets.

As we have explained before, the portion of Euro-markets that could be said to
be "dislocated" is a fraction of that of Q4 2011. Nine or ten months ago there
was a distinct possibility that the entire Euro-financial system could suffer a
Lehman-redux, while today we are looking at a far more concentrated crisis
centered around some very specific issues.

The problem today is that it has become impossible for certain sovereign
credits to be held in the portfolios of investment companies, for political as
much as genuinely economic reasons. While there seems little possibility that
the long term fiscal issues in either Italy or Spain will be solved in the
coming weeks, the restoration of order within the market for sovereign bonds is
a far lower hurdle to achieve.

In fact, should an agreement be reached for the ECB to intervene in secondary
markets while a "Stabilization Fund" backed by sovereign governments purchases
bonds in primary markets, the major failing of last year's effort would have
been addressed. We had argued back then that the ECB should amend its charter
to allow intervention in primary markets (bringing it in line with the FRB and
BOE) but frankly the proposed division of labor between ECB's and government
funding would work just as well. A little sophistry goes a long way when
dispensing with monetary dogma and if this mechanism could be successfully
launched, we would expect to see Spanish and Italian treasury yields return to
their levels of mid 2010.

While such an outcome would be generally welcomed by market participants, there
is one large subset of investors that would seem to be very poorly positioned
should things play out in this way. This would be investors who chose to become
heavily exposed to sovereign CDS over the last 18 months betting on Greek style
explosions in the value of such positions. Already those who bet that the trio
of France, Austrian and Belgium would dislocate have suffered a marked erosion
in the value of their positions (see chart). However, these losses would likely
be small compared to a sharp decline in the CDS rates of Spain and Italy.

As can be seen the CDS rate of Italy, Spain and Ireland have recently converged
around the 500 bp level. The latter is interesting since until recently its CDS
traded at far higher levels and the sharp fall is a reminder that confidence
can be restored as well as eroded. A sustained decline in CDS would be likely
to cause substantial reallocation of capital and it is worth considering how
this may play out.

Most obviously we would expect this to favor the underlying sovereign bonds of
the trio, all of which could see substantial yield compression. More
interestingly we would expect to see funds switch to a more positive equity
stance in an effort to catch up with lost performance, with German and US
domestically focused equities likely to benefit. The most obvious casualty
would be gold, which has typically been accumulated in conjunction with CDS as a
combined bet of monetary and fiscal chaos. It would be ironic if a major
injection of liquidity were to cause a sharp decline in gold, but stranger
things have happened in recent years. - eurocds.gif - francebelgiumaustria.gif

All the furore over LIBOR rigging in recent weeks does not change the fact that
it remains a useful real time indicator of conditions within the interbank
market, particularly now since one assumes that the daily rate submissions to
the BBA are subject to substantial compliance oversight.

It is therefore interesting to note that 3 month USD LIBOR has once more
started to decline steadily. The sharp reduction in LIBOR at the start of 2012
had stalled by early April with the yield flat at around 46 bp. No further
progress was made through late June but over the last month there has been a
sustained decline which has taken the yield just below 44 bp this morning.

As can be seen on the attached chart, the interbank lending market seems to have
split between French banks and the rest of the BBA submissions (there are no
Italian or Spanish banks contributing to USD LIBOR). The French banks have seen
no recent improvement (other than a small drop for BNP) while most of the rest
of the consortium have seen their borrowing costs reduced substantially. This
suggests that the overall fall in LIBOR understates the improvement of funding
conditions for non-French banks, particularly for those banks in the middle of
the pack.

Moves in LIBOR tend to have substantial momentum once they start and so even
though the incremental drop in small it can be expected to continue in the
coming weeks and we would hope to see the number of banks reporting LIBOR rates
below 35 bp (the outer reach of "normal" based on a 25 bp FDTR) increase from
the current count of 3 (HSBC, JPM and CS). - libormulti.gif

We have argued time and again that the monthly non-farm payroll report causes a
surge of attention and emotion out of all proportion to its reliability as a
real time gauge of economic conditions. At least the July report will cause
most to err on the side of relief or elation but it scarcely makes for a more
edifying spectacle.

BLS estimates showed Total Non-Farm Payroll gains for July of 163K, well above
the consensus for 100K jobs added. June's weak number was revised even lower
from 80K to 64K, but this was compensated for by a 10K increase to May's report
(now 87K). Private Sector payroll gains were estimated at 172K, compared to
expectations of 110K. Again June was revised lower by -9K (now 73K) while May
was revised up by 11K (116K). As the attached chart shows this keeps the 12
month ma at 161.92K, which compares to an ADP 12 month ma of 166.6K (as we have
explained before over a 12 month period these 2 series are quite closely
matched). In other words there really is little evidence that US employment
gains have moderated substantially over the last few months, just as there was
little evidence that a genuine surge in hiring took place in the winter months.

We did note a couple of things in the industry reports. Firstly a very strong
Manufacturing print, at 25K. Again we are not so excited about the single month
report itself as much as what it does to the trailing 12 month ma, which now
remains at 18.5K. The last couple of years have seen the greatest Manufacturing
employment gains since the late 1990's, although these gains followed the
horrific drawdown of 2007-9.

On the other hand Construction employment once more came in very weak at -1K,
the latest in a string of weak reports. As the attached chart shows the BLS has
not allowed for any increase in Construction employment over the last year,
which is the first time this has been true of an economic recovery. Given the
large number of data points showing a strong rebound in construction in recent
months this simply makes no sense. We have no idea why the BLS data has failed
to register Construction job gains but there is reason to believe that the
spring time decline in the data was at least partially caused by this failure.

Coming one day after a very solid set of ACTUAL retail sales for July, together
with other solid payroll data from ADP and initial claims, it is starting to
appear that the concerns over a US slowdown have been over-blown and that the
domestic economy continues to grudgingly make progress. - nfpprivate.gif -
manufacturingemployment.gif - constructionemployment.gif

The UBS Swiss Bubble Index measures 6 factors in the local real estate market
(purchase vs. rental prices, house prices vs. household income, house prices
vs. inflation, mortgage debt vs. income, construction vs. GDP and the proportion
of credit applications for residential income property by UBS clients) and
blends them into a unified measure. Each integer then represents a standard
deviation above or below "normal" conditions with the index being calculated on
a quarterly basis.

At the end of Q1 2012 the index stood at 0.95, on the boundary between a "boom"
and a "risky" market. Q2 saw a small pullback in the index back to 0.82 (we do
not have access to the various sub-indexes and so cannot say which caused the
modest decline). This keeps the Swiss housing market in buoyant conditions, but
does not (yet) signal the sort of boom which would place the SNB under pressure
to reconsider its stance on controlling the €/s₣ cross rate. This policy has
caused a substantial increase in SNB Reserve Assets held in Euros, with Q2 2012
alone seeing a surge of 79.5 bln (77%), while Swiss interest rates are
currently at or below zero through a maturity of 6 years. Under such conditions
one would imagine it is only a matter of time before the UBS index makes the
transition into higher, and unhealthier territory. - swissbubbleindex.gif -
snbeuroreserves.gif - swissyeildcurve.gif

In recent years observers have used the price of copper as a rough guide to
economic conditions in China. The logic behind this decision is clear. Copper
is the most important industrial metal and is a key component for both housing
and industrial production. China is also the largest user of the metal, taking
over from the US following the collapse in house construction at the end of the
last decade.

While we would certainly agree that the price of copper is influenced by
economic conditions in China we have become concerned in recent months that
financial flows into copper through commodity investing has started to diverge
the price of the metal from true supply and demand. A further complication is
the fact that huge copper stockpiles have been amassed in China and used as
collateral for loans. This has impacted copper demand, but not the actual usage
of the metal (other than as dead weight collateral).

An alternative metal to use as an indicator is Nickel. While this is a key
industrial metal (it is needed to manufacture stainless and other types of
steel) it has far less of a presence than copper in financial markets. As the
attached chart shows the price of Nickel has followed that of the local Chinese
equity market (we are using the SHASHR index) very closely in recent years
(although the latter did peak a few months earlier).

Interestingly both Nickel and the SHASHR index broke down to new 3 year lows
this week, and neither managed to participate in the strong "risk rally" that
took place at the end of July. The odds of both prices falling back to their
2008 low in the coming weeks would seem reasonably high, which would suggest
that the underlying economic conditions in China are somewhat worse than most
observers realize. - W-LMNIDS03_Comdty.gif -

Over the last 48 hours all the attention has been drawn towards the FOMC and
ECB, neither of which in the end announced any shift in policy, instead limiting
themselves to words of comfort and reassurance.

Ironically the one major central bank to announce something significant last
night was the BOJ, in the form of its monthly release of money base statistics.
These showed the total monetary base to have grown by ¥3,280 bln or 2.73% in
July, taking the annual growth rate back up to 8.6%. This follows the surge in
the monetary base last year in response to the earthquake and tsunami that
caused so much disruption. It was generally assumed that the BOJ would inject
liquidity and then slowly withdraw it as conditions normalized. This did indeed
occur towards the end of 2011 causing the annual change in the monetary base to
turn negative in March and April. Since that time the BOJ has quietly started
to rapidly expand the base once more, allowing it to grow by approximately 10%
since the end of the first quarter.

Indeed as a result of this activity, the BOJ has grown its domestic monetary
base at the same rate as the FRB has done in the US (note this period covers
QE2 but not the original emergency injection of liquidity in last 2008 via
"credit easing"). In our experience central banks often change policy prior to
admitting so in public. This was the case with the FRB in October 2008 and the
ECB last summer (it is often forgotten that the ECB's balance sheet started to
grow rapidly in August well before the LTRO was implemented in December). The
sudden surge in the BOJ's liquidity provision would seem to fit this pattern or
"doing more than you are saying". Given that Japan's money base is currently
about 60% of the US the sums involved are considerable and can be expected to
add to the already bloated total of reserve capital sloshing around deposit
accounts and short term treasury markets. - japanmoneybase.gif

Link to statement:
http://www.federalreserve.gov/newsevents/press/monetary/20120801a.htm

Today's statement from the FOMC included a brief note that recent data
"suggests economic activity decelerated somewhat over the first half of this
year," emphasizing a weakening of employment data (as we noted earlier today it
is really only the BLS data that has slowed, but this is the metric that
dominates FRB consideration - the prior statement had noted that "the economy
has been expanding moderately this year")

With US Manufacturing flat-lining in recent months at least a portion of this
slack has been taken up by a recovery in construction activity. The Census
Bureau estimate of total US Construction activity rose 0.4% to $842 bln on an
annualized seasonally adjusted basis, its highest level since November 2009.
May's data was revised strongly higher from 0.9% to 1.6%, which contributed to
this total. This takes the annual increase in construction spending up to 7%
and it is encouraging that this acceleration has taken place during the
seasonally busy spring construction season. As would be expected, residential
construction (which accounts for about a third of the total) has contributed
significantly to this gain, increasing by over 10% YoY from a very depressed
base. Manufacturing (around 5% of the total) has actually been the strongest
sub-sector growing by 21% as new plant has been invested in. As the attached
chart shows, construction activity is still less than 70% of peak activity
($1213 bln recorded in March 2006), with this draw-down being caused by a
collapse of Residential activity from $683 bln in March 2006 to $272 in June
2012 (see chart). - constructionjun12.gif - residentialconstruction.gif

We continue to track the ongoing boom in refinance activity, which has seen the
MBA Refinance Index stay in boom territory (4000+) since early May. This week's
reading saw the index reach 5428, the highest level since April 2009. The
trailing 10 week ma is now 4959, the highest level since May 2009. It should be
noted that the 2009 surge in applications was partly driven by a very high
level of rejections (causing multiple applications to be submitted for each
loan), whereas there have been few anecdotal stories suggesting the same pattern
has been a factor in 2012.

Instead this would appear to be a genuine and sustained boom in refinancing,
with home-owners locking in significantly lower mortgage rates (the 30 year GSE
rate is currently approximately 3.60%). This has important ramifications for
general consumer spending later in 2012, since it suggests that additional funds
currently being used for mortgage payments will become available for other
discretionary expenditure as refinancing activity turns into issued loans. This
surge in activity also greatly reduces the fundamental need for the FOMC to
purchase MBS securities in a further wave of QE, although the political
imperative behind being seen to "do something" remains a powerful driver for
the committee. - D-MBAVREFI_Index.gif -

The ISM Manufacturing report for July stayed just below the key 50 level in
July, coming in at 49.8 vs expectations of 50.2. Although this is not a
significant miss in terms of magnitude from a sentiment perspective there is a
world of difference between a slightly positive report and a slightly negative
report. If there is any positive spin to this data, it is the degree to which
much lower input prices have dragged the overall index lower, with the Prices
Paid index remaining very low at 40.

Other data was less promising, with New Orders (red) remaining slightly
negative at 48 (47.8 last month) and the Backlog of orders falling more sharply
at 43. Once more Export Orders would seem to be leading the decline in activity
at 46.5 (47.5 last month). Production (blue) remained modestly positive at 51.3
(51 last month), but clearly is unlikely to continue to do so unless orders
recover quickly. The same could be said for Employment (pink), which remained
positive at 52 (56.6).

Overall this report shows US Manufacturing finely balanced between a sustained
recovery and a more problematic period. Some comfort can be drawn from the fact
that the industrial sector has already priced in something of a slowdown in
recent weeks, but much will depend on the pattern of data and corporate news
released over the coming weeks. - ismjuly2012.gif - pricespaidjuly2012.gif

It is increasingly clear that Brazil's industrial sector has slipped into
recession with a string of negative readings being generated by industrial
production data. June's report continued this trend with overall industrial
production falling -5.5% YoY, somewhat worse than estimates of a -4.6% decline.
Thus far the decline in activity has been concentrated in the area of capital
goods, where activity has declined by -15.5% over the last year. This took
June's level of activity back to where it was in 2007, wiping out the post
crisis surge in activity. Thus far the reduction in production has not been
reflected in employment statistics, which remain relatively buoyant. We do not
believe this can continue to be the case for much longer and would expect to
see industrial sector lay-offs start to become apparent over the remainder of
2012. - brazilipjun2012.gif - brazilcapitalipjun12.gif

The ADP Payroll report for July continued its robust run of readings with an
estimate of 163K jobs added to the Private Sector. This was comfortably above
consensus estimates for 120K but was in line with the trailing 12 month ma of
readings at 166.6K. June's strong report was revised moderately lower from 176K
to 172K, but remains far above the June NFP report which estimated a mere 84K
Private Sector jobs being created in June (note this number is subject to
revision on Friday).

One thing that can be said for sure is that no clear inference for Friday's NFP
report can be drawn from today's ADP report. As the attached chart shows, there
is often a wide disparity between the 2 reports in a given month. However, over
the longer term they do tend to play catch up with one another. Therefore the
longer the ADP report stays in 160K range the greater the odds that the NFP
report will generate significantly higher readings later in 2012, but it is
still quite possible that the July report will be as mediocre as consensus
expects (110K for Private Sector jobs).

One notion we would resist is that either survey is a more accurate
representation for what is actually occurring in the economy (they are both
pretty awful over the short term but reasonably accurate over a period of
quarters). However, there is no question that the FRB and the financial market
is far more influenced by the official BLS data than the ADP report. With the
BLS data being poor since April the notion that the US employment picture has
worsened has started to become accepted wisdom over recent months, despite the
fact that ADP data and the weekly Initial Claims data both show far less sign
of deterioration.

This does therefore bring up the possibility that consensus has started to
swing to an overly negative view of the US domestic economy, which would
clearly have positive implication over the medium to longer term for the local
equity market. - adpnfp.gif - adppayrolljuly2012.gif