The Treasury market showed its mettle yesterday as most prices recovered from a sharp morning sell-off and closed with small gains.
Late yesterday afternoon, the 30-year bond was up 1/8 point on the day and 7/8 point above the session low, to yield 7.60%.
Prices fell during the morning when an unexpectedly strong initial jobless claims report suggested the labor market might not be in the dire condition indicated by the June employment report. The news of an increase in a key German interest rate added to the pressure on prices.
But the market made a comeback during the afternoon in the wake of H. Ross Perot's withdrawal from the Presidential race.
Despite the unfriendly claims report, "we are seeing a continuation of the trend" to higher prices, said Frederick Leiner, a market strategist at Continental Illinois National Bank & Trust Co.
"The fundamentals are still supportive," Mr. Leiner added. "Show growth and low inflation create the best possible combination for the market."
Douglas Schindewolf, an economist at Smith Barney, Harris Upham & Co., said Mr. Perot's announcement rescued the market because it removed a lot of the uncertainty surrounding the presidential race.
"Apparently many people felt [Perot's withdrawal] significantly boosted the chances of Bush's reelection," Mr. Schindewolf said. "Those people probably felt this was a time to take a stab at calling the top of the yield-curve-steepening trend and they put on some flattening trades."
Investors bet on a flattening yield curve by buying long-term paper and setting up short positions at the short end.
Treasury prices had fallen abruptly yesterday morning when the Labor Department said new filings for unemployment insurance fell 15,000, to 401,000, in the week ended July 4. Wall Street economists had expected only a decline of 1,000.
There was more bad news for the bond market in the details of the report: the number of people receiving state benefits declined 157,000, to 3.1 million, in the week ended June 27.
That contraction in the state jobless rolls "is what got the market spooked," said Jerry Zukowski, an economist at PaineWebber Inc. "Coming on the heels of the recent rally, it wasn't the kind of number the market wanted to see."
Mr. Zukowski said the decline left the number of people receiving state benefits at the lowest level since January 1991.
Analysts cautioned that the decline in weekly claims might have been depressed by seasonal factors.
The other bad news for bonds was the Bundesbank's announcement that it had raised the German discount rate 75 basis points, to 8.75%.
But economists noted that the Bundesbank refrained from altering the Lombard rate, which has a more direct impact on German short-term rates that the discount rate. They said the discount rate hike would matter more to German banks than to international financial markets.
Yesterday's other indicator, housing starts, was in line with the market's expectations. June starts fell 3.2%, to a 1.167 million annual rate, while May's increase was revised up to 11% from the 8.5% gain originally reported. Permits fell 1.3% in June.
Matthew Alexy, an economist at First Boston Corp., said the housing report provided more evidence of economic weakness. "The decline in housing permits, as well as the drop in starts, don't bode very well for a recovery in the housing sector," he said.
Treasury prices began to retrace their morning losses in early afternoon trading.
Other participants said the market was benefiting from anticipation of good news tomorrow from the University of Michigan's consumer sentiment number and the Philadelphia Fed's July business survey.
Traders were skeptical of the notion that flattening trades had [saved the market single-handedly, since short-term prices also improved quite a bit during the afternoon.
And they questioned whether Perot's exit was such good news for the bond market. After all, some traders said, the budget deficit ballooned the last 12 years of Republican administrations.
A bond salesman said some of the buying was in response to another piece of apparently bad news this morning, the Mortgage Bankers Association's report of a sharp increase in new mortgage applications.
The index jumped to 232.3 in the week ended July 10, the first week after the Fed's rate cuts, from 173.3 in the previous week.
Even though the increase in mortgage applications could be seen as good for the economy and bad for the bond market, some traders bought Treasuries out of fear their mortgage-backed bonds would be prepaid as the mortgage holders refinanced at lower rates, the salesman said.
The Treasury market held onto its gains late yesterday afternoon despite the news of big gains in two of the monetary aggregates.
A spokesman for the Federal Reserve Bank of New York reported at the bank's weekly press briefing that the nation's M1 money supply rose $11.2 billion, to $960.4 billion in the week ended July 6; the broader M2 aggregate gained $8.9 billion, to $3.5 trillion; and M3 decreased $7.2 billion, to $4.1 trillion, in the same period.
The September bond futures contract closed 1/4 point higher at 102 25/32.
In the cash market, the 30-year 8% bond was 3/16 higher, at 104 15/32/104 19/32, to yield 7.60%.
The 7 1/2% 10-year note rose 1/8, to 104 15/32-104 19/32, to yield 6.84%.
The three-year 5 7/8% note was down 1/32, at 101 1/32-101 3/32, to yield 4.69%.
Rates on Treasury bills were little changed, with the three-month bill down one basis point at 3.17%, the six-month bill point at 3.22%, and the year bill unchanged at 3.35%.
In other news, the New York Fed said the federal funds rate averaged 3.28% in the week ended Wednesday, down from 3.24% the previous week.
Treasury Market Yields
Thursday Week Month
3-Month Bill 3.21 3.26 3.68
6-Month Bill 3.29 3.36 3.81
1-Year Bill 3.45 3.58 4.06
2-Year Note 4.20 4.34 4.88
3-Year Note 4.69 4.83 5.42
5-Year Note 5.77 5.89 6.34
7-Year Note 6.33 6.41 6.76
10-Year Note 6.84 6.87 7.17 .
15-Year Bond 7.20 7.22 7.45
30-Year Bond 7.60 7.59 7.79
Source: Cantor, Fitzgerald/Telerate