Short-term and intermediate Treasury prices continued to lose ground yesterday as traders and investors adjusted their positions in light of statistics showing the economy is picking up steam.
Late in the afternoon, note prices were down 1/8 to 3/8 point, while the 30-year bond was up 1/8 and yielded 7.56%.
Charles Lieberman, a managing director at Chemical Securities Inc., said the losses at the front end of the bond market were nothing new.
"The short end has been beaten up very badly for the last week or so." Lieberman said.
He said investors were reacting to recent data showing the economy is doing a little better, as well as to the possibility the Clinton administration will enact measures to stimulate more economic growth.
The slightly more upbeat economic news and the possibility of a fiscal stimulus package have combined to kill any hopes for further easings in monetary policy by the Federal Reserve. Traders said they do not expect any change in policy to be made at today's meeting of the Federal Open Market Committee.
Lieberman agreed that it is now unlikely the Fed will ease any time soon, but said the bond market has overreacted.
"The market has already built in at least two [Fed] tightenings by early spring," he said.
Lieberman does not expect the Fed to tighten until the second half of next year, but said the Treasury market would need some numbers showing the economy remains weak before yields could start moving lower again.
Daniel Seto, an economist at Nikko, said the price declines were in part a belated reaction to the big increases in the monetary aggregates reported late Friday afternoon.
In particular, the $11.9 billion surge in M2 in the week of Nov. 2 left that measure of the money stock growing at a 2.4% annual pace, just below the 2.5% the Federal Reserve has set at the lower end of its target range for M2 growth.
Seto said that pickup in money supply growth, along with the improvement in some other economic indicators, like jobless claims, loan activity, and consumer confidence, suggests the economic recovery is finally beginning to gain momentum.
Yesterday's report on October industrial production added to the pile of evidence that the economy is recovering.
Industrial output rose 0.3% last month, a little above the consensus forecast for a 0.2% increase, and the capacity utilization rate rose to 78.5%. in line with expectations.
Manufacturing output jumped 0.7%, but a big part of that gain was due to an increase in light truck production. Seto said some participants were taking comfort from the fact that manufacturing production would have been up only 0.1% if autos were excluded.
But he said the report contained "some hopeful signs for the consumer sector even if you take out the auto sector." including big increases in the output of business equipment and consumer goods.
Traders said yesterday's activity was dominated by the notion that the yield curve will continue to flatten.
As the long bond outperformed the short end, its yield spread to the two-year note narrowed to 291 basis points, down from 299 late Friday.
"There's just no sponsorship right now in the short end." a short-term trader said. "It looks ugly, it feels ugly, it trades ugly."
He said some big accounts were doing curve-flattening trades, in which they set up short positions in short- or intermediate-term securities and buy long-term paper.
A note trader said other money leaving the short end was going into overseas markets, and some would be used by banks to meet the increased demand for loans.
The note trader agreed that the short end had overreacted and said the price slide might be almost over.
He expects the two-years to be auctioned next week to come around a 4.75% yield and noted that with the current two years yielding 4.65% late yesterday, and the usual roll on a two-year at eight or nine basis points, the market had already reached that level.
A bill trader said the general lack of enthusiasm at the short end resulted in mediocre bill auctions yesterday, with the three-month bills coming at 3.13% and the six-months at 3.37%. "Retail doesn't seem to care, and the Street doesn't want them," the trader said.
The December bond futures contract closed 2/32 lower at 103 13/32.
In the cash market, the 7 5/8% 30-year bond was 1/8 higher, at 100 20/32-100 24/32, to yield 7.56%.
The 6 3/8% 10-year note fell 3/8, to 96 12/32-96 16/32, to yield 6.87%.
The three-year 5 1/8% note was down 6/32, at 99 23/32-99 25/32, to yield 5.20%.
Rates on Treasury bills were higher, with the three-month bill up six basis points at 3.15%, the six-month bill up two basis points at 3.37%, and the year bill six basis points higher at 3.59%.