Today stock markets were generally lower around the world, and the Euro went below the 1.3000 mark for the first time since September, as ongoing concerns about the periphery were amplified by comments of the Bank of Portugal that warned of "intolerable risk" being faced by Portuguese banks in case that the public's finances are not brought to order. Rumors also contributed to the move, some of which went so far as to claim that France would be downgraded, or placed on negative watch by some ratings agency (this one was later refuted by the budget minister, who said that France is a safe haven "like Germany"). Speculation was rife towards the middle of the European session on the difficulties of the Landesbanken, and supposedly large volumes of borrowing from ECB's marginal lending facility. 3-month Euribor, however, seems reasonably relaxed, as is EONIA today. The USD appreciated against all but the JPY, but gold managed to make some gains after fluctuating during the past week, and it is around $1380 per ounce right now.

While the future of the metal is promising, we doubt that any new peaks will be reached before year end, as USD Libors have been rising in the background continuously over the past five days to signal a worsening of the liquidity situation. We think that this rise in the Libor rate will continue until the Eurozone problem attains some clarity, limiting the upward potential of gold in the next few weeks and perhaps several months. At the same time, markets are understandably excited by the news that China's Lion Fund Management will raise some $500 million to invest in overseas gold ETF, becoming the first such financial institution in the country. If we assess this development in light of the commitment of the Chinese to channel money out of the country to fight inflation and bubbles, there is every reason to be optimistic about gold, but perhaps not so much in the immediate future.

In the Eurozone, the most remarkable feature of the past two days has been the demotion of Italy from a reasonably strong issuer to a member of the "Doom Club". Italy's 10 yr spreads over the bunds has ballooned to as high as 212 bps today, coming back slightly below 200 later in the session, approaching the levels seen for Spanish-German spreads at 284 bps. Belgium's spreads on similarity maturity paper also rose to 131 bps, which is reported to be the highest since January 2009 by Bloomberg.

It appears that a vicious cycle has been established in the Eurozone finance markets in which concerns about the creditworthiness of sovereigns lead to doubts about the balance sheets of large and small financial institutions, leading to sell-offs in various markets, and reinforcing the panic existing among many market participants. Germans have yielded on their demands from the private sector, but the magic has fizzled, and the illusion has been disrupted that the E.U. sovereign debt market would function as a whole, leading to the contagion and panic that we are now observing.

In the interbank market, 3-month Euribor was up at 1.028% today vs. yesterday's 1.027%. 3-month USD Libor is at 0.30031 vs. 0.29594 yesterday, finally reaching levels that signal some stress in the dollar market in line with general risk sentiment.

Japan unemployment rises to 5.1%

Long gone are the days when Japan could boast full employment at near 2%, as the latest figures confirm that the appreciation of the JPY is having a big impact on Japanese corporations and their hiring plans.In consequence, household spending was reported to have fallen twice as expected at a rate of -0.9% m/m, confirming, as if confirmation were needed, that Japanese deflation will continue to trouble authorities for the foreseeable future.

In China, the USDCNY central parity rate was 6.6762 vs. yesterday's 6.6700. In fairly typical comments, the chief of a regional branch of the PBOC reaffirmed the need for gradual appreciation, pointing out that inflation is above target, and that reducing import costs may help the country bring it back to acceptable levels. He also suggested that raising rates would be reasonable to combat inflation, since hot money flows will see only very small fluctuations in consequence of interest rate differentials at this stage. Apart from these, China's recent sale of government bonds of various maturities in HK, aimed at boosting the internationalization of yuan and establishing benchmarks for the market, is of note in the context of the USDCNY appreciation debate.

Among U.S. releases, consumer confidence numbers were of significance as they showed some improvement on a broad basis. Yet if we compare the present situation to the days before the crisis, or just to Q4 2007, when the numbers were above 100, the magnitude task faced by the Fed, and the economy attains greater clarity. The little ups and downs that create market movements may have some significance in terms of short-term trends, but from the Fed's point of view, they would barely influence the assessment of the economic situation. All of that implies that the central bank will maintain its present stance for some time to come.

In short, the sovereign debt crisis continues with immense momentum, tensions are spreading to the interbank market, and rumor mills are running about the funding difficulties of unspecified regional/small banks in the Eurozone. Gold shows great resiliency in the face of rising dollar demand, as risk sentiment gives way to a panic. Bourses remains strong, not least because there is still some sense that the Fed will do something about the situation in order to prevent the resumption of a bear market. Be that as it may, once panic sets in, all these arguments are likely to be thrown out of the window, and the USD will appreciate until precise and unambiguous central bank action is observed.