U.S. government securities posted healthy gains yesterday as unexpectedly low readings on June producer prices eased fears of an immediate tightening of monetary policy.
Lending further support to Treasuries was the higher dollar, which recovered from early lows to finish yesterday's session in positive territory.
The 30-year bond closed up almost 1/2 a point, to yield 7.68%.
The Labor Department reported that the producer price index was flat in June and down 0.1% excluding the volatile food and energy component. The report was substantially better than expectations for an overall increase of 0.3% with a 0.2% increase for the core rate.
"The PPI figures came in better than expected and suggest that inflation is not yet posing a problem to the bond market," said Robert Brusca, chief economist at Nikko Securities Co.
Government-bond prices surged immediately after the report, led by the short end of the yield curve, which had come under pressure in recent sessions as the market braced for the potential for higher interest rates.
Last Friday's jobs report showed the economy continues to grow at an above-average pace and rekindled fears of a near-term credit tightening by the Federal Reserve. Against that backdrop, bond investors thought high readings on either yesterday's PPI report or today's consumer price report might compel the central bank to boost short-term rates.
The initial rally fizzled early because most of the early gains came at the hands of dealers covering short positions and not from retail accounts. As a result, the market saw little follow-through to sustain the initial price increases.
Further tempering the market's gains yesterday were the weak U.S. dollar and some warning signs for future inflation contained within the PPI report.
The dollar remained under pressure for the better part of the session, falling to a new low of 96.50 Japanese yen and to 1.5160 German marks. As the dollar fell, Treasuries erased most of the early rally. The dollar then rebounded to 97.40 yen and 1.5283 marks, taking some of the pressure off the bond market and refocusing attention on economic fundamentals.
Meanwhile, bids were hit as market players began to second-guess their initial response to the inflation statistics. The price figures showed prices at the intermediate level rose 0.3% in June, while prices at the crude level jumped 0.9%.
"There was some statistical noise in the PPI data that was not particularly positive for the market, but we eventually got over it," a market strategist said.
Still, dealers said the first of this month's round of inflation reports was constructive for the fixed-income markets. Players are now looking ahead to today's consumer price index figures. Analysts polled by The Bond Buyer are calling for a 0.3% increase in the CPI both with and without food and energy factored in.
Players were cautiously optimistic about the CPI report, widely considered a broader and more reliable barometer of national price pressures. The report, however, could still serve the market an upside surprise, they said.
On the economic front, Nikko's Brusca said the pace of U.S. economic growth is losing momentum and that expansion will probably slow in the second half of the year.
"This economy is running out of gas," Brusca said, speaking at the firm's quarterly economic forecast conference. He expects the yield on the 30-year bond will fall to 6.3% by the end of the third quarter.
Brusca said real gross domestic product growth in the third quarter of 1994 will be at a 1.8% rate and will come in at a 2.0% rate in the fourth quarter. However, the slower growth will still leave the year-on-year expansion at 3.5% in 1994.
Inflation is not currently a problem, Brusca said, although inflation could be more of a threat later this year.
He said he expects the Federal Reserve to raise its target for the federal funds rate another 25 basis points by the end of 1994 to 4 1/2%. He warned the central bank against raising interest rates to defend the troubled dollar because the currency's weakness is largely against the yen and not other currencies. Instead, he said the Clinton Administration needs to clarify its position on the dollar.
In futures, the September bond contract ended up 16/32 at 100.26.
In the cash markets, the 6% two-year note was quoted late Tuesday up 3/32 at 99.19-99.20 to yield 6.20%. The 6 3/4% five-year note ended up 8/32 at 98.25-98.27 to yield 7.02%. The 7 1/4% 10-year note was up 13/32 at 98.24-98.28 to yield 7.41%, and the 6 1/4% 30-year bond was up 14/32 at 83.10-83.14 to yield 7.68%.
The three-month Treasury bill was unchanged at 4.55%. The six-month bill was up three basis points at 5.07%, and the year bill was up four basis points at 5.51%.
Corporate Securities
A more stable Treasury market yesterday encouraged some corporate issuers to bring their offerings to market. Three straight debt deals were priced.
The Province of Saskatchewan issued US$400 million of notes due July 15, 2004, to yield 8.116%, according to lead manager Goldman, Sachs & Co.
The notes have a coupon of 8% and are priced at 99.212, to yield 70 basis points more than Treasuries. Moody's Investors Service rated the issue A3 and Standard and Poor's Corp. rated it BBB-plus. The notes are noncallable for life.
A $100 million issue of the Scotts Co. notes, due Aug. 1, 2004, was priced as 9 7/8s at 99.212 to yield 10%. The notes, which are noncallable for five years, were priced 255 basis points more than comparable Treasuries. Rated Ba3 by Moody's and BB-plus by Standard & Poor's, the issue will be sold through underwriters led by Goldman Sachs.
In addition, Household Finance Corp., a unit of Household International, issued $250 million of notes due 2004 via lead manager Morgan Stanley & Co.
In the secondary market for corporate securities, spreads of investment-grade issues narrowed by 1/8 to 1/4 of a point, while high-yield issues generally ended unchanged.
In the credit rating news front, Duff& Phelps Credit Rating Co. said United Air Lines Inc.'s ratings remain on Rating Watch with a downward bias, following shareholder approval of an employee buyout of parent company UAL Corp.
Duff & Phelps said the buyout calls for employees to acquire 55% of UAL in exchange for an estimated $4.9 billion in wage and benefit concessions from workers. A key element in the buyout is the creation of a new, low-cost airline to compete with more cost-effective, short-haul carriers.
The rating agency rates United's equipment pass-through certificates and equipment certificates leverage lease BBB and its notes and debentures BB-plus.
The ratings were placed on Rating Watch with a downward bias on May 17, 1994 in anticipation that the buyout would be approved, resulting in a large cash outflow. The buyout calls for existing shareholders to receive $84.81 a share in cash and half a share of new United stock in exchange for each existing share.Treasury Market Yields Prev. Prev. Tuesday Week Month 3-Month Bill 4.55 4.29 4.19 6-Month Bill 5.07 4.81 4.62 1-Year Bill 5.51 5.45 5.10 2-Year Note 6.20 6.10 5.78 3-Year Note 6.54 6.41 6.11 5-Year Note 7.02 6.90 6.56 7-Year Note 7.22 7.12 6.6110-Year Note 7.41 7.29 6.9930-Year Bond 7.68 7.58 7.30 Source: Cantor, Fitzgerald/Telerate
