A tidal wave of strong news on the economy last week convinced even some of the most optimistic of fixed-income investors that the U.S. economy is on a steady growth track.
But the question remains: Will economic growth come with a roar or a whimper?
Statistics, including the preliminary report of third-quarter gross domestic product, durable goods orders, home sales, and personal spending, supported the view that a sustainable recovery is underway. They also fueled fears that inflation will begin to heat up.
"The economy is bound to see some better numbers on the economy, and people are nervous about the implications on price pressures," said James Kenney, head trader at Prudential Securities.
The Treasury market lost ground last week with each hint of improvement in the economy, prompting participants to wonder if the great bond market rally of 1993 is finally over. The question on the minds of players Friday was: Are long-term yields poised to spike higher?
Ask the vast majority of market analysts and they'll say it depends on the length of your outlook.
Short term, market observers expect economic growth to accelerate smartly in the fourth quarter and post about 4% GDP growth. Growth at that pace is likely to create further selling pressures in the Treasury market, which could push long-term yield levels higher. But into 1994, observers expect the economy to soften.
"I see an acceleration in the fourth quarter, but after that I think the economy slows down," said Donald Fine, chief market analyst at Chase Securities.
Long term, Fine cites a number of factors that will tend to hinder any acceleration of economic growth next year. They include uncertainty over upcoming health-care reform and higher taxes, ongoing corporate restructuring, the scale-back in the defense industry, the weak commercial real estate market, and the lack of new and innovative consumer products.
Philip Braverman, chief economist at DKB Securities, also expects a surge in economic activity in the last quarter of 1993 due to increased consumer demand and inventory rebuilding, particularly in the auto sector. However, he rejected the notion that the economy is on a sustainable upswing and argued that stronger GDP growth in the fourth quarter will be related to rebuilding attempts in the aftermath of floods in the Midwest.
"I think the market is mistaking that boost for a sustainable rise in economic activity," Braverman said. He noted that gains in recent consumption figures have been concentrated in autos, carpets, furniture, and apparel, all of which Braverman believes are categories of goods destroyed during the period of flooding.
As the debate over the direction of the economy wages on, the market is trying to locate a comfort zone where it can tolerate stronger economic growth. Participants are bracing for the prospect of 4% growth or higher in coming months plus government-induced inflation as tax increases and health-care reform take effect.
Until a level is agreed upon by the marketplace, Treasuries are in a rather tenuous position. There are few reasons to sell the 30-year and just as few to buy it. "The long end is hovering around 6% and I think it will stay in a range of 5.75% to about 6.15% for a while," said Fine.
Market observers argued that with no new economic releases supporting the notion that the economy remains weak, there is little incentive to establish long positions for Treasuries. On the other hand, the positive outlook on inflation has provided few reasons to sell the market.
There is no shortage of economy reports this week. Traders generally agree that the employment report is the most important release this week, as it will provide the market with its first comprehensive view of the economy's performance in October.
Also slated for release this week are the National Association of Purchasing Managers' survey for October, leading indicators for September, and new home sales, also for September.
In other significant news this week, the Treasury Department will announce the size of its quarterly refunding package. Talk in the market Friday was that the Treasury may reopen the 5.75% 10-year note to head off what traders see as a protracted squeeze on the issue.
Treasury prices resumed their downward slide as a lack of buying interest and strong news on the economy conspired to fuel fears that the economy is gaining steam.
The 30-year bond ended Friday down 10/32, to yield 5.96%.
The Commerce Department reported that personal income rose a modest 0.2% in September and that personal spending advanced 0.3%, the sixth straight monthly gain. While the figures were in line with expectations, they supported the notion that spending is on a sustainable uptrend.
Brian Wesbury, chief economist at Griffin, Kubik, Stephens & Thompson, said that Friday's consumption figures, coupled with the consumer spending component of the GDP report, bode well for growth in the fourth quarter.
The manufacturing sector continued to show signs of life, according to the latest survey from the Chicago National Association of Purchasing Managers. The Chicago index rose to 57.0% in October from 54.5% in September. The new orders index also posted a healthy gain in October to 59.3% from 54.0% in the previous month. The employment component was unchanged at 51.9.
Most of the selling pressure was concentrated in the intermediate sector of the curve, particularly the 10-year note.
In futures, the September contract ended down 7/32 to 118.24.
In the cash markets, the 3 7/8% two-year note was quoted late yesterday down 3/32 at 99.24-99.25 to yield 3.99%, the 4 3/4% five-year note ended down 7/32 at 99.17-99.19 to yield 4.84%, the 5 3/4% 10-year note was down 15/32 at 102.11-102.15 to yield 5.42%, and the 6 1/4% 30-year bond was down 10/32 at 103.26-103.30 to yield 5.96%.
The three-month Treasury bill was unchanged at 3.04%, the six-month bill was up one basis point at 3.19%, and the year bill was also up one basis point at 3.34%.