The Treasury market made impressive gains yesterday morning, then collapsed dramatically during the afternoon when the lackluster five-year note sale set off a wave of profit taking.

The afternoon sell-off brought prices back to Tuesday's closing levels, with the 30-year bond off 1/8 point on the day and yielding 7.44%. During the morning, the long bond had made a new high for the year, spiking more than a point to yield 7.36%.

The treasury market began to back off its highs after it ran into technical resistance in the bond futures contract, and traders said the weaker than expected bidding at the five-year auction proved to be the final straw.

"The downdraft was sparked by the five-year sale," said Peter Mayers, assistant treasurer at Bank Julius Baer in New York.

Participants characterized the sell-off as a necessary correction after the current run-up in prices.

Analysts said the barrage of numbers due to hit the market was also a factor because investors were wary of going into the indicators, especially this morning's initial claims report, at the recent highs.

"The positive sentiment for long-to intermediate-term securities was well justified, but the run-up happened a little too quickly," said Kevin Flanagan, a money market economist at Dean Witter Reynolds Inc. "I think investors decided they would rather ring up the cash register than hold onto positions going into some of the numbers this week and next week."

Long-term Treasury prices rose a full point on Tuesday when the report of a big drop in July consumer confidence provided further evidence of economic weakness.

The market added to those gains overnight as foreign investors jumped in, and the rally accelerated in early New York trading after the bond futures contract broke through its all-time high at 105 20/32.

Traders said they saw more buying of intermediate- and long-term Treasury paper by mortgage-backed and foreign investors during the morning.

The bond market retraced a small part of its gains going into the five-year note auction, then flopped after the auction results were released.

The $10.5 billion of five-year notes came at an average yield of 5.56%, the lowest since the Treasury began selling five-years in 1977, and will bear a 5 1/2% coupon.

The 5.56% average matched expectations, but the fact that some bids were awarded at 5.57% was a disappointment; traders had not expected a tail. The Treasury awarded 45% of the bid entered at 5.57%.

"As we got near the auction, the feeling was there would be very little, if any, to be bought at 5.57%," Mr. Mayers said. "People scaled their bids accordingly but later found they were awarded 45%" at 5.57%.

The sell-off "was sparked by people dumping that excess that they bought that they didn't need," he continued. "That spilled over and gave everyone who was sitting on profits an excuse to take those profits."

By late in the afternoon, the price of the new five-years had fallen and pushed the yield to 5.65%, up sharply from the 5.56% auction average. !!!BEGIN TABLE Treasury Market Yields Prev. Prev. Wednesday Week Month3-Month Bill 3.24 3.21 3.616-Month Bill 3.34 3.31 3.721-Year Bill 3.54 3.48 4.022-Year Note 4.26 4.23 4.813-Year Note 4.67 4.69 5.295-Year Note 5.62 5.73 6.237-Year Note 6.10 6.31 6.6610-Year Note 6.60 6.83 7.0715-Year Bond 6.95 7.19 7.4130-Year Bond 7.44 7.61 7.74

Source: Cantor, Fitzgerald/Telerate !!!END TABLE

Mr. Mayers noted that the five-year sale "was not a terrible auction in absolute terms, but compared to the way people were talking, it was not great."

The $945 million of noncompetitive bids was above average for a five-year sale, while the 2.39-to-1 ratio of bids to securities being auctioned was slightly below average.

A note trader argued that the Treasury prices were due to sell off, given the magnitude of the recent rally and the fact that after the last three days of price gains, "the Street was heavily weighted on the long side."

The trader said he expects the market to resume its rally eventually.

Mr. Mayers agreed that the rally was not over, but said the long end may run into some difficulties over the next few weeks if the August refunding supply spooks long-term investors.

Traders said the weekly jobless claims would be the number to watch this morning. The market will also get a preliminary estimate of second-quarter gross domestic product and a report on June new home sales.

Economists surveyed by The Bond Buyer on average expect 411,000 of new claims for the week ended July 18, down from 422,000 the previous week.

"If claims were back down below 400,000, that could cause the market some pain," a government coupon trader said.

The September bond futures contract closed unchanged at 105 5/32, after trading as high as 106 during the New York session.

In the cash market, the 30-year 8% bond was 1/8 lower, at 106 16/32-106 20/32, to yield 7.44%.

The 7 1/2% 10-year note rose 1/32, to 101 12/32-101 16/32, to yield 6.10%.

The three-year 5 7/8% note was down 3/32, at 103 1/32-103 3/32, to yield 4.67%.

In when-issued trading, the 4 1/4% two-year note was unchanged, at 99 30/32-99 31/32, to yield 4.26%.

Rates on Treasury bills were little changed, with the three-month bill steady at 3.19%, the six-month bill unchanged at 3.26%, and the year bill down one basis point at 3.43%.

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