Moments after the 3pm official close, MBS and TSYs are well into their worst levels of the day. FNCL 4.5's are down 5 ticks on the day at 103-13 and 10yr notes are up to 3.202, a 4.5 basis point increase on the day. Lenders that haven't already repriced for the worse are now more likely to do so.

The slight bit of bearish bias in bond markets following the 3yr note auction just took another small and incremental into negative territory. The 10yr note is now just barely ABOVE 3.19 and FNCL 4.5's are at their lows of the day at 103-15. Loan pricing was mixed this AM. Some lenders owed gains from yesterday while others were flat on first release. With FNCL 4.5s -3/32 and 4.0s -6/32, reprices for the worse are possible from the lenders who withheld rebate yesterday afternoon. If your pricing was dinged this morning, you have a few more ticks to work with...if the downtrend continues you too are likely to see unfriendly recalls.

Despite a reasonably normal 3yr note auction bond markets first move following the auction was to their weakest levels of the day with FNCL 4.5's falling to 103-14 and 10yr notes getting almost as high at 3.19. But both have moderated somewhat with 4.5's currently at 103-16, and 10yr notes at 3.182. It's still a moving target however, and if we had to guess, we'd say it looks a bit more bearish than bullish as far as bonds are concerned. If 10's tick further back toward 3.19, or MBS back toward 103-14, reprices for the worse would become more likely.

* U.S. SELLS $32 BLN 3-YEAR NOTES AT HIGH YIELD 1.000 PCT, AWARDS 20.92 PCT OF BIDS AT HIGH *U.S. 3-YEAR NOTES BID-TO-COVER RATIO 3.29, NON-COMP BIDS $25.87 MLN * US TREASURY - PRIMARY DEALERS TAKE $16.60 BLN OF 3-YEAR NOTES SALE, INDIRECT $10.46 BLN

ARLINGTON, Va., May 10 (Reuters) -- The U.S. economic recovery is humming along despite high unemployment and depressed housing activity, making it key for Federal Reserve policymakers to remain vigilant about budding hints of inflation, Richmond Fed Bank President Jeffrey Lacker said on Tuesday. Lacker said improved household and business spending, as well as strong exports led by demand from fast-growing emerging nations, was helping to support the economic recovery. A self-described inflation hawk who is not a voter on this year’s Federal Open Market Committee said he expects energy prices to stabilize or ease a bit, allowing overall consumer price growth to trend back toward his preferred goal of around 1.5 percent. "We should not take that outcome for granted, however. I would be concerned if I expected substantial further price increases, but at this point, futures markets are pricing in modest declines in petroleum products," Lacker told the Northern Virginia Regional Forum. "Having said that, our experience over much of the last decade demonstrates that a flat futures curve does not preclude further price hikes." (Reporting by Pedro Nicolaci da Costa; Editing by Neil Stempleman)

10yr notes are effectively at their highs of 3.18 with just over 30 minutes to go before the 1pm 3yr note auction. FNCL 4.5's are slightly above their lows of the day currently 1 tick down versus yesterday at 103-17. This has also proven to be their preferred pivot point of the day with more touches here than anywhere else. Risks of negative reprices for the worse are somewhat elevated since we last updated you but are most likely to change (for better or worse) after we see how accounts bid for the lowest yielding 3yr in 4 months.

With the passing of this morning's data, we see that the week indeed looks to officially begin with the auction cycle. Volume is light and trading patterns are technical. The slightly higher yields than yesterday, consolidating around 3.17 suggest a bond market that's in the process of getting in position for today's auction. FNCL 4.5's are down a tick on the day at 103-17 and FNCL 4.0's are down 4 ticks at 100-10. The former is near previous lows while the latter is at the lowest level of the day. With 4.5's only down 3 ticks from peak to trough, it's not overly likely that we'll see reprices for the worse, but we're perhaps at the "early warning sign" stages.