Treasury bill and note prices posted modest gains yesterday after the consumer price report confirmed that inflation remained under control in May.

Late in the afternoon, note prices were 1/8 to 1/4 point higher. The 30-year bond, which was not able to hold onto its initial gains on the price report, was 1/32 lower and yielded 6.81%.

The Labor Department said consumer prices rose 0.1% in May, while the core rate, excluding food and energy costs, was up 0.2%. The consensus forecast called for 0.2% increases in both measures.

The modest gain in May prices came as a relief after the 0.4% increases in the April consumer price index and core rate.

Taken in conjunction with the 0.2% gain in the core rate of May producer prices reported Friday. yesterday's consumer price report showed there is no need for the Federal Reserve to immediately raise short-term rates. analysts said.

The May consumer price report "should put to rest concerns about accelerathing inflation and about an imminent Fed tightening," said Ram Bhagavatula, chief economist at Citibank.

Bhagavatula expects the Fed to raise short-term rates in August in response to signs of stronger economic growth.

Kathleen Camilli, chief economist at Maria Fiorini Ramirez Inc., said she still expects the next Fed move to be toward higher rates, even though the May price reports show a tightening can be postponed for now.

"At this juncture, the inflationary pressures are abating and it doesn't look as if the economy is overheating, so there's no immediate need for the Fed to tighten," Camilli said.

Jim Kenney, head of Treasury trading at Prudential Securities, said it was not surprising the long bond underperformed yesterday. "It was the front end that was negatively impacted when everyone thought the Fed was going to tighten and that was positively impacted when people realized the Fed was not going to tighten," he said.

Bhagavatula said the long bond was vulnerable because its initial rally took its yield down to 6.77%, close to the high end of its recent range of 6.75% to 7%.

"That looks a little rich in terms of bond prices if you think the underlying rate of inflation is 3% to 3.5%," he said. "Then the appropriate bond yield is 7%."

But Anthony Karydakis, a senior financial economist at the First National Bank of Chicago, argued that with inflation worries out of the way, the long bond is poised to rally.

"I think there is a reasonable prospect the bond will try to make new highs over the next few weeks," Karydakis said. "We've cleared the much-feared inflation reports and now we'll be focusing on the rest of the economic environment, which is particularly friendly for the bond."

Karydakis cited last week's 0.1% rise in May retail sales, the declines in manufacturing employment in recent months, and the lackluster readings on measures of consumer confidence. "There are just no signs the entire expansion is picking up momentum," he said.

Alexander Powers, a vice president at the Chase Manhattan Bank, expects some buying by portfolio managers to benefit the long end.

"We feel the average manager is still a little short relative to his benchmark," Powers said. "As the average manager buys to get even, it will push the market a little higher.

Powers is less optimistic about short-term prices because he thinks that area will come under pressure as the Treasury shifts more of its debt issuance to the front end over the next six months.

Kenney said bond traders disliked yesterday's remarks by Laura Tyson, chairwoman of the Council of Economic Advisers. Tyson said it would be difficult to get politicians to agree on deeper spending cuts.

"The market will be very upset if it looks as if the thrust of deficit reduction is being lost," Kenney said.

Yesterday's car sales statistics had little impact on Treasury prices. The sales reports looked healthy, though, with early June car sales coming in at a 6.8 million annual rate, slightly above the consensus forecast, and light truck sales considerably stronger than expected at 5.6 million.

This afternoon, the Treasury will announce the size of next week's two- and five-year sales. Most economists think the government will sell $15.75 billion of two-years and $11 billion of five-years, matching last month's sales, but a few are predicting an increase of $250 million to $500 million in the two-year sales.

The September bond futures contract closed 5/32 lower at 111 22/32

In the cash market, the 7 1/8% 30-year bond was 1/32 lower, at 103 26/32-103 28/32, to yield 6.81%.

The 6 1/4% 10-year note rose 7/32 to 102 7/32-102 9/32, to yield 5.93%.

The three-year 4 1/4% note was up 7/32, at 99 14/32-99 16/32, to yield 4.43%.

Rates on Treasury bills were lower, with the three-month bill down one basis point at 3.06%, the six-month bill off three basis points at 3.16%, and the year bill three basis points lower at 3.34%.Treasury Market Yields Prov. Prov. Tuesday Week Month3-Month Bill 3.10 3.18 3.066-Month Bill 3.23 3.39 3.191-Year Bill 3.45 3.64 3.372-Year Note 4.05 4.30 4.023-Year Note 4.43 4.65 4.465-Year Note 5.17 5.33 5.267-Year Note 5.56 5.72 5.7410-Year Note 5.93 6.08 6.1130-Year Bond 6.81 6.91 7.01Source: Cantor, Fitzgerald/Telerate

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