Today's Tidbits

A Move to 30 Year Fixed Rate Mortgages in UK Will Alter Monetary Policy Effectiveness
From Dow Jones: “The Bank of England may have to move its key interest rate more dramatically if the U.K. government succeeds in developing a market for long-term, fixed-rate mortgages. Mortgages account for 84% of overall U.K. consumer debt,
BOE data show. When the central bank raises its key rate, borrowing costs rise, leaving consumers with less to spend on other goods and services, thus damping inflationary pressures…At present, the impact of interest rate moves on consumer spending - which is known as the transmission mechanism – is relatively immediate. That’s because while three-quarters of mortgages taken out currently are fixed-rate, only a small proportion -5% - are for durations of more than five years and many are for terms as short as two years. However, U.K. Prime Minister Gordon Brown wants to promote longer-term, fixed-rate mortgages as a way of helping more people buy homes. Some economists say that if a large proportion of consumers shifted to long-term deals, that would reduce their sensitivity to interest-rate moves, since the cost of meeting mortgage payments wouldn’t change. Nor would the impact on house prices be as large. “Since house prices represent the bulk of U.K. consumer wealth, this is likely to exacerbate the BOE’s problem of slowing domestic demand in order to stamp out inflation pressures,”…“This may mean that the market may have to get used to 50- basis-point moves in policy rates in future.”…Charles Plosser, president of the Federal Reserve Bank of Philadelphia, said in a speech in London Wednesday that the U.K. transmission mechanism is much faster than that in the U.S. That’s because a far larger number of U.S. consumers are on long-term, fixed-rate mortgages.”

Broad-Based Labor Shortage in India Slows Outsourcing
From Forbes: “employers in as many as 20 sectors ranging from retail to textiles to financial services are facing extreme labor shortages, according to a new study. It isn’t just a fight for the highly qualified. The study by the Federation of Indian Chambers of Commerce and Industry found shortages of “skilled, semi-skilled and unskilled workers.” Post-secondary institutions aren’t churning out enough graduates with the skills companies are looking for, and the tight job market is allowing workers to job-hop at will for better opportunities…. In biotechnology, there is a need for 80% more scientists with doctorates. In banking and finance in 2006, there was a 90% shortage of risk managers; 65% for tech professionals, 50% for treasury managers, 75% for credit operations professionals and 80% for financial analysts. The tech sector is expected to face a shortage of as many as 500,000 employees in 2010, according to industry estimates… India churns out about 2.5 million college and university graduates each year, including 400,000 engineers, but the numbers are misleading. The number of graduates is small relative to the size of the population — about 10% of Indians receive any college training, as opposed to 50% in the United States — and the quality of their education is often doubtful… Several Indian businesses are scaling down their expansion plans in India in the face of the talent crunch and rising wages… And for foreign companies, it no longer makes sense to outsource a few hundred jobs to India… With the increase in wages as well as the cost of setting up in a big city like Mumbai, Delhi or Bangalore, “the market is now all about scale if outsourcing is to be cost effective,” …Recruiters say the only new source of skilled labor is overseas Indians attracted back by the booming economy. Indians in the Middle East and Far East are coming home, as are expatriates from destinations like the U.S. and the U.K.”

MISC
From Barclays: “Not for the first time this year we are struck by how the markets are consistently probing major historic levels across a broad spectrum of assets: 2007 is turning into a watershed year.”

From Merrill Lynch: “Every speculative financial bubble in history has been accompanied by excessive lending. The U.S. housing bubble has certainly fit that mold. Once again, we see that excessive lending when asset prices appreciate typically turns problematic when asset prices stabilize or decline….Most investors will agree that the financial markets have been powered for quite some time by excess liquidity…The incremental risk aversion now evident in the financial markets seems to us to be a sign that the financial liquidity spigot is starting to tighten.”

From RBSGC: “MBS underperformed UST 10Y by 10 ticks over the past month and 3+ ticks last week.”

From UBS: “The subprime triggered flight to quality rally began in earnest in early June. Since that time swaps and agency bullets have widened almost in lockstep - pushing out 10-12 bp in the 10y sector and 7-9 bps in 2s.”

From JP Morgan: “This week saw the biggest rise in CDS spreads and volatility for more than two years.”
From The Financial Times: “Investment banks and brokers have been among the hardest hit in credit derivatives markets during the dramatic volatility seen in recent days as their financial strength has comes under greater scrutiny… The focus on financials has been driven by concerns over their exposure to the crisis-hit US subprime mortgage industry. This has been the spark for the significant correction in the broader market for credit default swaps, which provide a kind of insurance against non-payment of corporate debt… Worst hit were the full-service banks such as BoA, Citi and JPM, who saw their cost of protection jump respectively by 48 per cent, 45 per cent and 37 per cent over the first half of this week… Among the broker banks – Bear, Lehman, Goldman, Merrill and MS – the moves in CDS spreads were more in the low 20 per cent range. Along with other areas of the CDS markets, these groups recovered some ground on Thursday, but BoA for instance was still trading at a spread of about 20 basis points – which means it costs $20,000 annually to insure $10m worth of its debt over five years. This is up by about one-third since the start of the week.”
From Goldman Sachs: “…the United States has turned into the world’s largest debtor nation, accumulating a negative net investment position valued at $2.14 trillion (16% of GDP) at year-end 2006.”

From Wachovia: “The dollar has fallen sharply against most major currencies over the
past month. Dollar losses were extended this week against most major currencies. This
dollar weakness is largely a result of market perceptions about future central bank policy
rate decisions. In the past two weeks, many foreign central banks have raised their rates,
while others are poised to hike their rates further. These data and market expectations
have laid the framework for greenback weakness, based on dollar-bearish interest rate
differentials.”

From Merrill Lynch: “About half of the stock market's return so far this year appears to be attributable to the weakening of the US dollar. The Dow is up about 11-12% in US dollars, but it is up only about 6-7% in non-US currencies.”

From FTN: “Yesterday’s 283 point rise in the Dow was the biggest percentage increase (2.1%) in nearly 4 years. Both the Dow and the SP500 hit new highs, while the NASDAQ added to what is now an 11.9% rise for the year.”

From Citi: “Iran requests Japanese payments for oil to be made in Yen… the small size of the oil-related flow between Iran and Japan would only lead to a negligible effect. The move would make itself mostly felt through a change in market sentiment and the anticipation of a more widespread adoption of such a stance. This would strengthen the Yen and weaken the USD at the margin.”

From Merrill Lynch: “San Francisco President Janet Yellen…said that "core inflation tends to be a better measure of where trends are headed". She told reporters that the Fed has not changed how it views core and total inflation, and that the Fed prefers to focus on core inflation as "it seems like it's a better predictor of the underlying trend".”

From JP Morgan: “The FOMC will have a new voter in August as Eric Rosengren replaces Cathy Minehan as Boston Fed President. Rosengren, a banking expert and career Boston Fed economist, will likely be regarded as a centrist on the committee. A search is still under way to replace outgoing Chicago Fed President Michael Moskow. President Bush has appointed Elizabeth Duke and Larry Klane to fill the two vacant seats on the Federal Reserve Board. Duke and Klane, both bankers, are unlikely to be scheduled for a Senate confirmation hearing before the next FOMC meeting.”

From Dow Jones: “[GE] announced it is exiting the U.S. subprime-mortgage business, and that it has already sold off $3.7 billion in loans to reduce its exposure to turmoil
in that market.”

End-of-Day Market Review
Treasuries remained in a tight range, with yields on the shorter end of the curve falling just under 2bp and long-bond yields falling almost 3.5bp. Equities built on yesterday’s record highs to close at new highs again. The Dow closed up 45 points, Nasdaq up 5.3, and the S&P rose 4.8 points. The dollar continues to weaken. The dollar index fell .06 to 80.58 after trading at a new low for this year earlier in the day. Oil futures rose $1.43 to close at a new ten month high of almost $74.