A sudden drop in the dollar ruined a Treasury rally Friday that had protected supply-strapped dealers, and prices sank 1/2 to one point on average, continuing a two-week downward trend.

Municipal prices moved steadily lower thanks to a flood of new issues this month, which totaled just over $6 billion last week alone.

Reflecting the overall weakness, the 20-bond index of general obligation yields jumped 16 basis points last week, to 6.21%, while the 11-bond GO index climbed 18 basis points, to 6.13%, and the 30-year revenue bond index moved up 16 basis points, to 6.36%.

With little relief from downward pressure in sight on Thursday, traders were happily surprised early Friday when the Treasury market relied after President Bush's acceptance speech promised to reduce the federal deficit.

The strength in the government market buoyed tax-exempts and halted the market's steady slide, giving the Street some confidence in the face of more deals scheduled for sale this week.

But at midsession, the value of the dollar suddenly dropped at the same time the Treasury market neared a key resistance point. Government prices whipsawed more than one point, leaving municipal bonds vulnerable and dealers began to mark prices down.

"When the government market cracked we went with them, and it's a good thing the weekend is here," said one trader late Friday. "It fell freely, it fell hard, and there was very little trading activity -- we just sat and watched it hit the skids."

By session's end, traders quoted dollar bond prices down 1/2 to as much as one point, depending upon the name. High-grade bond yields rose five to 10 basis points on the day.

For example, bonds from an issue of $540 million Commonwealth of Puerto Rico GOs were quoted at 95-1/4 to yield approximately 6.42% on the bid side, where they were priced earlier in the week to yield 6.30%.

In the debt futures market, meanwhile, the September municipal contract settled down 26/32, to 96.25.

The MOB spread widened to a record negative 285 from negative 277 Thursday, as municipals continued to suffer more than the Treasury market.

"The turn in the Treasury market is ominous, but the municipal market suffered the worst because of supply," said James L. Kochan, head of fixed-income research at Robert W. Baird. "The weakness in the dollar is very disturbing and it appears that politics may be the dollar's problem. If that's the case, we're flying blind politically and, with more supply coming, that does not bode well for this market at least for the next week."

Looking ahead, supply will continue to dominate trading activity, and issuers are still flocking to the market.

The Bond Buyer calculated 30-day visible supply at $5.97 billion Friday, while The Blue List of municipal bonds swelled to $1,85 billion.

New Issues

Nearly $5 billion of bond issues are scheduled for sale this week, but market players noted that the deteriorating market could prompt some postponements.

The negotiated sector features $666 million of New York Metropolitan Transportation Authority transit facilities revenue bonds, to be priced by Dillon, Read & Co.; $525 million Orange County, Transporation Authority, Calif., sales tax revenue bonds, to be priced by Lehman Brothers; and $357 million Connecticut special tax obligation transporation infrastructure purposes bonds, to be priced by Bear, Stearns & Co.

The competitive sector is dominated by $140 million of Charlotte, N.C., various-purpose bonds.

The market will not take a serious look at economic news until the first week of September when the latest employment data are released.

But the economic calendar this week features the July durable goods report, to be released Wednesday; initial jobless claims for the week ended Aug. 15, to be released Thursday; and personal income and spending for July, which will be released on Friday.

Friday's Market

Activity was relatively limited as the bid-side disappeared, and traders marked bonds down and ignored bid-wanted lists.

In follow-through business, Goldman, Sachs & Co. freed $300 million Washington general obligation bonds from syndicate restrictions.

In late secondary trading, the 5 3/4 of 2017 were quoted at 93 1/4-3/4 to yield 6.29%. The bonds were originally priced to yield 6.24%.

Paine Webber Inc., senior manager for $331 million of San Francisco, Calif., sewer revenue refunding bonds, reported an unsold balance of about $60 million.

In other secondary dollar bond trading, prices were quoted down 1/4 to as much as one point.

Florida Board of Education 6s 2022 were quoted at 96 1/2-97 to yield 6.26%; Florida Municipal Power FGIC-insured 5.70s of 2016 were quoted at 93 3/4-94 1/4 to yield 6.20%; and Los Angeles Department of Power 6s of 2032 were quoted at 95 1/4-1/2 to yield 6.32%. New York City Water Authority 6s of 2017 were quoted at 93 1/2-94 to yield 6.53%.

In the short-term note sector, yields were quoted five to 10 basis points higher on the day on average.

Iowa Trans were quoted at 3.10% bid, 3.05% offered; Los Angeles Trans were quoted at 3.05% bid, 2.95% offered; and Wisconsin notes were quoted at 3.05% bid, 3% offered. New York City Tans were quoted at 2.90% bid, 2.85% offered and New York State Trans were quoted at 3.05% bid, 3% offered.

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