This week's key economic indicators, the June consumer and producer price reports, are expected to show inflation remains under control.
That sounds as if it would be timely news for the bond market, which was rattled last week by soaring grain and gold prices.
But analysts say the good news on inflation may have only a limited impact on Treasury security prices.
The consensus forecast calls for a 0.2% decline in tomorrow's June producer price report and a 0.1% decrease in the core rate of producer prices, excluding food and energy costs. Wednesday's June consumer price index is expected to rise 0.1%. with a 0.2% increase in its core rate.
Long-term Treasury prices are trading at record lows, and economists say that is partly because the market anticipated the friendly June inflation reports and accounted for them in price levels.
"I don't think there's any inflation news that could bring in new buyers, because the world knows we're going to get good news," a government bond salesman said.
Some analysts said that the market's satisfaction with the June numbers could also be tempered if it sees continuing increases in commodity prices.
"I think the inflation reports will be good, but not good enough to push the bond yields down further, and at the same time commodity prices are likely to still be rising, because of the floods in the Midwest," said David Wyss, chief financial economist at DRI/McGraw-Hill.
On another front, the bond market's faith in the President's deficit reduction package faces a test this week when Congress returns from its recess. Expectations that the economic plan's taxes would slow economic growth have been a big element in the market's recent rally.
Bob Bannon, a senior bond strategist at I.D.E.A., said Treasury prices may suffer when traders realize how difficult it will be for Congress to reconcile the differences between the House and Senate versions of the package. He said he thinks the budget battle may drag on into September.
Bannon said it is also likely that legislators will raise the question of whether deficit reduction is still a desirable goal given the weak June employment report.
"I think bonds will particularly dislike any talk of abandoning, even to a limited extent, deficit reduction," he said.
Jim Winder, manager of financial economics at Merrill Lynch, said Treasury market participants realized that the reconciliation process will be contentious.
"I think it's understood that it's not going to be easy, that the votes will be close, " Winder said. " I think ultimately it will get done; I just don't think a Democratic Congress will let a Democratic President fail. "
Meanwhile, Winder said there were a number of factors still operating in the Treasury market's favor, including incoming money from the seven-year notes that mature this week, continuing demand from municipal issuers defeasing high-coupon debt, and the fact that the Treasury will not sell coupon securities until the end of the month.
Wyss said that down the road, the bond market is likely to be discouraged when economic reports start showing a pickup in the economy.
There are already signs of strength appearing, including last week's reports of strong late-June car sales and a bigger-than-expected decline in initial jobless claims.
Wyss does not expect the worries about stronger growth to be a factor this week. He said this week's only important measure of growth, Wednesday's June retail sales report, is likely to show only a modest gain.
On Friday, long-term Treasury prices closed higher, with the 30-year bond up 1/4 point to yield 6.63%, after spending a quiet session reacting to swings in commodity prices
The market slid lower in early New York trading on forecasts that soybeans would post another big gain.
Grains did head higher early in the session. But as the price of soybeans and the Commodity Research Bureau index settled down later in the day, the bond market managed to erase its initial losses and head higher.
The Commodity Research Bureau index closed just .07 point higher at 216.05, after having been up more than 1 1/2 points earlier in the day. Spot gold also declined $3.20 to close at $391.30 an ounce.
Traders said the long end benefited from extension trades, with one account reportedly doing a big switch out of five-year notes and into bonds.
Investors "like the market, but think the two-year note has limited upside, so they're moving out the curve," a coupon trader said.
The market showed little reaction to the release late Friday afternoon of the minutes from the May 18 Federal Open Market Committee meeting. The minutes confirmed earlier press reports that the governors had voted 10 to 2 to adopt a bias toward tighter monetary policy.
The September bond futures contract closed 3/8 higher at 114 15/32.
In the cash market, the 7 1/8% 30-year bond was 1/4 higher, at 106 8/32-106 10/32, to yield 6.63%.
The 6 1/4% 10-year note rose 3/32, to 103 22/32-103 24/32, to yield 5.73%.
The three-year 4 1/4% note was down 1/32, at 99 28/32-99 30/32, to yield 4.27%.
Rates on Treasury bills were unchanged to slightly higher, with the three-month bill steady at 3.02%, the six-month bill up two basis points at 3.12%, and the year bill one basis point higher at 3.27%.Treasury Market Yields Prev. Prev. Friday Week Month3-Month Bill 3.06 2.99 3.106-Month Bill 3.19 3.13 3.261-Year Bill 3.37 3.31 3.472-Year Note 3.95 3.91 4.103-Year Note 4.27 4.22 4.485-Year Note 4.98 4.96 5.207-Year Note 5.37 5.37 5.5710-Year Note 5.73 5.74 5.9530-Year Bond 6.63 6.66 6.80Source: Cantor, Fitzgerald/Telerate