The tug of war between the bulls and bears intensifies this week as the bond market comes up against a barrage of reports on the economy.
At issue is whether growth has moderated from the brisk pace seen earlier in the year. At risk is the health of a market already weakened by signs of mounting wage pressures and lingering fears of higher interest rates.
Fixed-income analysts remain decidedly mixed about overall economic fundamentals, with some forecasting softer growth in the third and fourth quarters of 1994, and others expecting the economy to expand further through the end of the year.
"It's too soon to tell whether the economy is losing steam, and it's equally premature to conclude growth will speed up," said Samuel Kahan, chief economist at Fuji Securities. "The data will give usan idea which of these two views is correct."
Reports scheduled for release include the consumer price index, retail sales, industrial production, and housing starts.
The notion that the pace of economic growth may moderate in the months ahead has gained credence in recent weeks as reports of slower activity came in, analysis said.
Three recent examples came from the Commerce Department, which reported that the index of leading indicators was unchanged in May. Consumer spending slipped 0.1%, also in May, and the nation's factories received fewer new orders in April.
Other signs of potential weakness have come from the employment, automobile, and housing sectors of the economy. Treasury Market Yields Friday Prev. Prev. week month 3-Month Bill 4.20 4.21 4.206-Month Bill 4.67 4.70 4.831-Year Bill 5.16 5.22 5.372-Year Note 5.82 5.84 6.013-Year Note 6.14 6.19 6.385-Year Note 6.59 6.60 6.867-Year Note 6.63 6.63 6.9310-Year Note 7.00 6.98 7.2730-Year Bond 7.30 7.26 7.49 Source: Cantor, Fitzgerald/Telerate
But bond investors are not getting ahead of themselves. At best, they remain cautiously optimistic that the bearish cloud that hovered over the Treasury market in recent months will gradually dissipate.
That stance was evidenced Friday when market participants voiced somewhat bearish sentiment on the outlook for government securities this week, with concern primarily focused on the consumer price index report due out tomorrow.
"The numbers this week should be generally market friendly, but there is always that chance for a surprise," said Cary Leahey, senior economist at Lehman Government Securities Inc.
The much-awaited May inflation series, which offers investors their first comprehensive view of national price pressures in May, provides U.S. monetary authorities with a blueprint for the direction of short-term interest rates.
If Friday's producer price index was any indication, the market could be in for a surprise. Though producer prices fell 0.1% in May, they rose 0.4% exluding the volatile food and energy components. The sharp increase in the core rate raised eyebrows in the fixed-income markets and placed an even brighter spotlight on tomorrow's CPI release.
Ahead of the release, the bond market has entered in a holding pattern, with few participants willing to place new their bets.
Expectations for the CPI release center on moderate increases of 0.2% overall and 0.3% excluding food and energy. In April, consumer prices rose 0.1% over all, while they edged up 0.2% with food and energy factored out.
Tomorrow also will also bring the May retail sales report. Market players are anxiously awaiting this Commerce Department release to judge whether consumer spending patterns are, in fact, slowing as scattered surveys have indicated.
Bond investors continue to wonder whether spending activity on the national level will remain an engine of economic growth or sputter out as the economy approaches the end of the second quarter. Economists generally expect retail sales to increase between 0.1% and 0.2% in May.
The inflation-sensitive bond market will keep an eye on the Federal Reserve's report on industrial production and capacity utilization. With capacity at the nation's factories hovering dangerously close to the 84% level, investors wonder how far behind wage pressures could possibly be.
The increase in hourly earnings in the May employment report raised some red flags and provided one of the most compelling pieces of evidence yet of mounting wage pressures. Average hourly earnings jumped 6 cents in May to $11.11. Market players fear that Wednesday's report in capacity utilization could be another. Economists generally expect capacity to hold near 83.6% in May.
Aside from developments in the economy, fixed-income investors are encouraged by renewed strength in the U.S. dollar, which they believe will result in better demand for U.S. government bonds and other dollar-denominated investments.
However, ongoing trade negotiations with Japan could pose problems for the dollar in world currency trading, as well as in the U.S. fixed-income markets. "The dollar is a lot weaker than I thought it would be at this stage of the game," said Fuji's Kahan. "Clearly, it's a concern."
Treasury Market
Treasury market prices ended moderately lower Friday in volatile but light trading following the release of the May producer price index.
The 30-year bond ended the week down 3/8 of a point to yield 7.30%.
Government bond prices dropped slightly at the announcement of PPI, then reversed direction to post small gains. Prices ended the session lower as accounts took profits ahead of the weekend.
In futures, the September bond contract ended down 16/32 at 104.10.
In the cash markets, the 5-7/8% two-year note was quoted late Friday down 3/32 at 100.02-100.03 to yield 5.82%. The 6-3/4 five-year note ended down 10/32 at 100.19-100.21 to yield 6.59%. The 7-1/4% 10-year note was down 12/32 at 101.19-101.23 to yield 7.00%, and the 6-1/4% 30-year bond was down 12/32 at 87.06-87010 to yield 7.30%.
The three-month Treasury bill was up one basis point at 4.20%. The six-month bill was up three basis points at 4.6%, and the year bill was up six basis points at 5.16%.
Corporate Securities
Corporate bond rating trends continue to support a rate of U.S. economic growth in excess of 3%, according to John G. Lonski, senior economists at Moody's Investors Service.
Far fewer ratings downgrades and slightly more ratings upgrades suggest that corporate finances remain sound enough to assure a continuation of the ongoing business cycle upturn, he said.
"If anything, the financial conservatism how widely adhered to has enhanced corporate America's ability to exploit business opportunities," Lonski said. "The current aversion to speculation minimizes the risk of troubled investments and other failed business decisions which usually force those cutbacks in business expenditures that ultimately stall the overall economy."
During the five months of this year, the number of downgrades of U.S. corporate bond ratings fell by 19%, to 62 from 77 during the first five months of 1993.
The face value amount of non-money-market securities downgraded plunged by 53% in the year to date. The number of corporate rating upgrades edged up by 2% to 76 in the January-May period this year from 66 a year earlier. Concurrently, the face value amount of non-money-market securities upgraded jumped by 62% from $49.8 billion to $80.6 billion.
The primary market for corporate securities saw scant activity Friday, an about-face from recent sessions. Still, over $2 million of debt has been priced since last Monday.
BankAmerica Corp. issued $250 million of subordinated notes due 2004 via Salomon Brothers Inc.
In the secondary market for corporate securities, spreads of invesment-grade issues widened by 1/8 of a point, while high-yield issues generally ended unchanged.
