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•    Europe's recent "stress tests" of the strength of major banks understated some lenders' holdings of potentially risky government debt, according to the Wall Street Journal
 
•    A sharp fall in the German factory orders adversely affected investors’ risk-appetite
 
•    Portuguese central bank said that borrowing by Portuguese banks from the ECB went up 0.6% in August to a new record of EUR 49.1bln
 
•    RANsquawk European Morning Briefing Video: http://www.youtube.com/watch?v=Zaf_rwkb8wY
 
Overnight News
 
ASIA
 
Lead 10-year Japanese government bond futures edged higher overnight, drawing support from a dip in Tokyo shares and regaining some ground after sliding to a two-month low the previous day. Nikkei fell 0.8%, dented by profit taking after four straight days of large gains and as the JPY’s strength shows little sign of abating. But for a second straight day the benchmark managed to hold above its 25-day moving average, which had served as resistance for most of last month, a sign it could resume climbing once profit taking is absorbed. (RTRS)
 
Bank of Japan Target Rate (Sep) M/M 0.10% vs. Exp. 0.10% (Prev. 0.10%) (RTRS/Sources)
The Bank of Japan held off on loosening monetary policy further on Tuesday but said it will take timely action when necessary, setting the stage for possible easing next month when there is clearer evidence of the strong JPY’s impact on the slowing economy. Also, BOJ's Shirakawa said monetary policy is not determined by short term forex moves, adding that he will not rule out any policy options. He also said that the BOJ is watching the impact of JPY rise on Japan’s economy.
 
In other news, China’s banking regulator is drafting a plan to require banks to maintain loan-loss reserves of 2.5% of total lending according to an unidentified China Banking Regulatory Commission official. (RTRS)
 
US
 
"The US has run out of bullets," said Nouriel Roubini, professor at New York University, and one of a caste of luminaries with grim forecasts at the annual Ambrosetti conference on Lake Como. "More quantitative easing by the Federal Reserve is not going to make any difference. Treasury yields are already down to 2.5% yet credit spreads are widening again. Monetary policy can boost liquidity but it can’t deal with solvency problems," he told Europe’s policy elite. (Telegraph)
 
In other news, former Fed’s Kohn said that the Fed should take further steps to support the economy such as buying government bonds if the recovery continues to slow. He added that real interest rates could start to rise if inflation expectations drop, and that the current economic rebound is likely to be slower than previous ones. (NY Times)
 
Elsewhere, President Obama has unveiled a plan to spend USD 50bln building roads, railways and airport runways next year in an effort to show that he is tackling the chronic US unemployment problem in the run-up to the November elections. Also, under mounting pressure to intensify his focus on the economy ahead of the midterm elections, President Obama will call for a USD 100bln business tax credit this week, using a speech in Cleveland on Wednesday to launch what administration officials said was a new policy push. The business proposal - what one aide called a key part of a limited economic package - would increase and permanently extend research and development tax credits for businesses, rewarding companies that develop new technologies domestically and preserve American jobs. It would be paid for by closing other corporate tax loopholes, said the official, speaking on condition of anonymity because the policy has not yet been unveiled. (FT/Washington Post)
 
Also worth noting that according to an article in FT Alphaville, Goldman Sachs still expects a further USD 1trl of quantitative easing from the Fed. (FT Alphaville) The entire story can be found at: http://ftalphaville.ft.com/blog/2010/09/07/335821/goldman-still-expects-a-further-1-trillion-of-qe/

Bonds
 
EUROPEAN GOVERNMENT BONDS
 
Bund futures traded in positive territory for the entire European session amid risk-averse trade, weakness in equities as well as a sharp fall in German factory orders. European peripheral 10-year bond yield spreads with respect to bunds widened across the board following a Wall Street Journal article questioning the validity of recent European bank stress tests, with Irish/German spread touching Euro lifetime high, and Portuguese/German spread widening to its highest since May’10. Moving into the North American open, prices are trading sideways in positive territory.
 
Looking in more detail, Europe's recent "stress tests" of the strength of major banks understated some lenders' holdings of potentially risky government debt, a Wall Street Journal analysis shows. An examination of the banks' disclosures indicates that some banks didn't provide as comprehensive a picture of their government-debt holdings as regulators claimed. Some banks excluded certain bonds, and many reduced the sums to account for "short" positions they held—facts that neither regulators nor most banks disclosed when the test results were published in late July. (WSJ)
 
•   German Factory Orders SA (Jul) M/M -2.2% vs. Exp. 0.5% (Prev. 3.2%, Rev. to 3.6%)
•   German Factory Orders NSA (Jul) Y/Y 7.7% vs. Exp. 20.6% (Prev. 24.6%, Rev. to 24.7%) (RTRS)
 
GILTS
 
NYSE LIFFE Gilt futures traded in tandem with bunds in positive territory as risk-aversion dominated market sentiment and equities weakened, and moving into the North American open Gilt futures are trading in positive territory.
 
•   BRC August Retail Sales Monitor (Aug) Y/Y 1.0% vs. Prev. 0.5% (RTRS)
 
EQUITIES
 
European bourses traded in negative territory for the entire European session as risk-aversion gathered pace. Financials remained under pressure on the back of an article in the Wall Street Journal, questioning the validity of the recently conducted European bank stress test, as well as comments out of the Portuguese central bank saying that borrowing by Portuguese banks from the ECB went up 0.6% in August to a new record of EUR 49.1bln. Basic materials also underperformed on renewed fears that the minority Labour government in Australia will impose the dreaded mining tax, allied with strength in the USD index. The Oil & Gas sector was another underperformer primarily due to news of ongoing strikes at Total’s refineries. It is also worth noting that in early European session telecommunication sector came under pressure following Barclays Capital downgrading several large cap stocks including France Telecom and Telefonica. Moving into the North American open, equities are trading in negative territory with financials and basic materials as the worst performing sectors.
 
FX
 
EUR weakness was observed across the board as risk-aversion persisted and following an article in the Wall Street Journal questioning the validity of the recent EU stress tests. Allied to this a sharp fall in German factory orders further pressured EUR. In other news, GBP/USD gained strength in early European trade following a jump in retail sales data from the UK, with further momentum achieved as stops were triggered to the upside at 1.5400. However, as the session progressed and the USD index gained strength, GBP/USD pared back earlier gains.
 
In other news, JPY traded higher across the board following comments from BOJ’s Shirakawa that monetary policy is not determined by short term forex moves, as well as a major US bank selling in EUR/JPY. Elsewhere, the Swedish Krona (SEK) lost strength following comments from the Swedish Debt Office that it will begin scaling back SEK 50bln position due to SEK’s strength.
 
Also in the news, Australian PM Julia Gillard clung onto power, securing support from independent lawmakers to form a minority government after her Labour Party lost its majority at elections last month. (RTRS)
 
•   Reserve Bank of Australia Cash Target (Sep) M/M 4.50% vs. Exp. 4.50% (Prev. 4.50%) (RTRS)
 
COMMMODITIES
 
WTI crude futures have traded lower during the European session, pressured by a strengthening USD Index (+0.25%).
 
Oil & Gas News:
•    Russia may spend up to RUB 8trl in the next 25 years to develop natural gas projects on the Yamal Peninsula in Arctic Russia. Elsewhere, Russia and Kazakhstan have agreed to jointly explore a gas condensate field on the border of the two countries.
 
Geopolitical News:
•    An IAEA report has said that Iran’s total production of low-enriched uranium has risen by around 15% since May, showing Tehran is pushing ahead with disputed work despite tougher sanctions. The White House has called the latest report on Iran “troubling”, and said it showed Tehran was still trying to develop a nuclear weapons capability. However, Iran’s new ambassador to the UAE has said that Persian Gulf nations have no need to fear Iran’s nuclear program because it is peaceful.