Who's our "Baby?" Bond markets, of course. Focusing on 10yr notes for a moment, yields walked in the door about mid range vs yesterday and went sideways. stock futures were even lower than yesterday's worst levels, but they regained a bit of a technical floor. Bond markets clearly reacted to that and are clearly "stalking" stocks (like a cat), ready to move in for the kill, but keeping distance when stocks show signs of putting up a fight. This morning's rally in stocks over the past hour has seen 10yr yields rise almost 10bps, and MBS were down to 104-03 in Fannie 4.0's--in other words, rising stocks are backing bonds into a corner where current weakness meets yesterday's low range. If bonds are "baby," it now looks the tight-jeaned dance instructor is here to put an end to recent trends. Stocks are bouncing lower and just dipped below the open. MBS are well off their recent lows. 10yr yield found a ceiling. Come on out and dance baby.

Fannie 4.0's are down 13 ticks to 104-06 and 3.5's are down 11 ticks to 101-13. At face value, the losses seem motivated by the 830am economic data, but that's not the case. Benchmark TSYs have been flat all morning after walking in the door just slightly weaker but have been in a 2bp range since 830am. That's your first clue that we're not seeing econ-data-driven selling in MBS. The second clue relates to the volatility metrics we discussed yesterday. In short, they're up a bit, which almost always coincides with MBS widening versus Treasuries. In our view, it's a good thing to see MBS down a bit this morning. The rapidity of recent gains has been creating serious problems for the industry. And if markets can put the brakes on prices without a significant move below 104-00 in 4.0's, that would be great. Who even knows what to expect from pricing this morning... Things were a mess yesterday with TONS of reprices for the worse even into the rally (see: "serious problems for the industry"). Hopefully a night of sleep and a day of experience in this "new era" will help things stay a bit more even-keeled today.

(Reuters) - New U.S. claims for unemployment benefits dropped to a four-month low last week, government data showed on Thursday, a rare dose of good news for an economy that has been battered by a credit rating downgrade and falling share prices. Initial claims for state unemployment benefits fell 7,000 to a seasonally adjusted 395,000, the Labor Department said, the lowest level since the week ended April 2. Economists polled by Reuters had forecast claims steady at 400,000. The prior week's figure was revised up to 402,000 from the previously reported 400,000. The Federal Reserve said on Tuesday economic growth was considerably weaker than expected and unemployment would fall only gradually. The U.S. central bank promised to keep interest rates near zero until at least mid-2013. Hiring accelerated in July after abruptly slowing in the past two months. However, there are worries that a sharp sell-off in stocks and a nasty fight between Democrats and Republicans over raising the government's debt ceiling could dampen employers' enthusiasm to hire new workers. The continued improvement in the labor market could help to allay fears of a new recession, which have been stoked by the economy's anemic growth pace in the first half of the year. A Labor Department official said there was nothing unusual in the state-level claims data, adding that only one state had been estimated. The four-week moving average of claims, considered a better measure of labor market trends, slipped 3,250 to 405,000. Economists say both initial claims and the four-week average need to drop close to 350,000 to signal a sustainable improvement in the labor market. The number of people still receiving benefits under regular state programs after an initial week of aid dropped 60,000 to 3.69 million in the week ended July 30. (Reporting by Lucia Mutikani; Editing by Neil Stempleman)

(Reuters) - The U.S. trade gap widened in June to its largest since October 2008, as both U.S. imports and exports declined in a sign of slowing global demand, a government report showed on Thursday. The June trade deficit leapt to $53.1 billion, surprising analysts who expected it to narrow to $48 billion from an upwardly revised estimate of $50.8 billion in May. Overall U.S. imports fell by close to 1 percent, despite a rise in value of crude oil imports to the highest since August 2008. Higher volume pushed the oil import bill higher, as the average price for imported oil fell to $106 per barrel after rising in each of the eight prior months. U.S. exports fell for a second consecutive month to $170.9 billion, as shipments to Canada, Mexico, Brazil, Central America, France, China and Japan all declined. (Reporting by Doug Palmer; Editing by Chizu Nomiyama)