Starting today the early traded in stock index futures were better; stock markets in Europe were better. The 10 yr note yield at 1.67% was up 1 bp at 8:00, by 8:30 unchanged as were MBS prices. At 12:30 this afternoon the FOMC policy statement will be released, the expectations by most traders is that the Fed will announce it will continue to buy treasuries when Operation Twist expires at the end of the year. Additional treasury buying after the Twist ends will add to the Fed's balance sheet whereas the Twist was balance sheet neutral in that every long term note or bond bought by the Fed was offset by selling equal amounts of short term treasuries. There are a number of economists that are sounding alarms over the increasing size of the Fed's balance sheet, saying the Fed could disturb normal bond market activity when it is time to sell what it has purchased. Not likely in our opinion; when the time comes the Fed will unwind its buying slowly and unsettle markets.

Cliff diving; dangerous in the water, but equally dangerous in the economy. The discussions continue between the White House and Republicans in Congress. Signs are emerging that there is a little progress being made. The Administration and John Boehner continue to talk, a good thing; increased taxes on high incomes is on the table now from Republicans and Obama willing to talk about spending cuts. Obama reduced his demand for tax increases to $1.4 trillion from $1.6 trillion. Talk is good but so far it is difficult to handicap the outcome. Most economists saying going over the Cliff will send the economy back into recession if falling off the edge at the end of the year isn't resolved early in 2013. Rating agencies have signaled a failure to deal with it will cause them to consider lowering the US credit rating again. Consumers and investors as well as small businesses are unwilling to spend until there is a resolution one way or the other. We still don't believe we will see a deal until late Dec.---if then.

At 9:30 the DJIA opened +35, NASDAQ +10, S&P +4. 10 yr at 9:30 unch at 1.66%, 30 yr MBS price up slightly (3 bp).

In Europe Greece bought back enough bonds to meet a target necessary to obtain further aid, a government official said late yesterday. Greek bonds rallied for a fifth day, pushing the 10-year yield as much as 68 basis points lower to 12.53%, the least since the debt was restructured in March. The EU debt crisis has been pushed off the table recently with the Cliff dominating most thoughts.

Mortgage applications increased 6.2% from one week earlier, according to data from the Mortgage Bankers Association's (MBA) Weekly Mortgage Applications Survey for the week ending December 7, 2012. The Refinance Index increased 8% from the previous week and is at its highest level since the week ending October 12, 2012. The seasonally adjusted Purchase Index increased 1% from one week earlier. The refinance share of mortgage activity increased to 84% of total applications from 82% the previous week. The average contract interest rate for 30-year fixed-rate mortgages with conforming loan balances ($417,500 or less) decreased to 3.47%, the lowest rate in the history of the survey, from 3.52%, with points decreasing to 0.36 from 0.41 (including the origination fee) for 80% loans. The average contract interest rate for 30-year fixed-rate mortgages with jumbo loan balances (greater than $417,500) decreased to 3.77% from 3.79%, with points increasing to 0.35 from 0.32 (including the origination fee) for 80% loans. The average contract interest rate for 30-year fixed-rate mortgages backed by the FHA decreased to 3.32%, the lowest rate in the history of the survey, from 3.34%, with points decreasing to 0.51 from 0.62 (including the origination fee) for 80% loans. The average contract interest rate for 15-year fixed-rate mortgages decreased to 2.85%, the lowest rate in the history of the survey, from 2.86%, with points decreasing to 0.26 from 0.27 (including the origination fee) for 80% loans.

Until at least 12:30 when the FOMC policy statement is released the US markets are likely to sit quietly. The Fed is expected to certify the markets' expectations that it continue to buy treasuries and MBSs totaling $85B a month ($40B of MBSs and $45B of treasuries) in an effort to keep rates low. One of the two mandates that the Fed has by law is to keep unemployment low, a mandate that so far has demonstrated the fed has not been able to accomplish. We have said many times here that lower interest rates and the Fed's buying will not lower unemployment; just balloon the Fed's balance sheet. Nevertheless the Fed keeps going and it does help keep lower than they would be without the Fed buying.

At 1:00 this afternoon Treasury will auction $21B of 10 yr notes while markets are still focusing on the FOMC policy statement at 12:30. Yesterday's 3 yr was not as strong as in the past 3 yr auctions. At 2:00 the Nov Treasury budget will show a deficit of $113.0B. At 2:15 Ben Bernanke will hold a 45 minute press conference to answer questions about the policy statement and continue to say the Fed will keep short term rates low for the next two years.

30 yr MBSs still in a 50 bp price range; the 10 yr note in a seven basis point yield range since early Nov. Technically neutral; not bullish but not bearish either. Until the 10 yr either exceeds 1.70% or 1.58% most indicators will stay in neutral territory. A Cliff deal will likely send rates higher, a failure rates will decline. In the meantime interest rates will be well contained.