Treasury short-term prices ran ahead yesterday to price in the next Fed ease even though the funds rate was just settling in at the new 4 1/2% level set on Friday.

Bond prices lagged the short end for most of the day, but made a valiant attempt to catch up during the afternoon in response to a drop in commodity prices.

Late yesterday, the 30-year bond was 1/8 point higher to yield 7.78% while the two-year note was up 1/4 point to yield 5.04%.

That left the 30-year yielding 274 basis points more than the two-year note, a new high for that spread.

The short end traded strongly all day on the assumption that another Fed ease is imminent.

Even though the Federal Reserve just cut its funds rate 1/4 point on Friday, to 4 1/2, traders expect a 1/2-point cut in the discount rate, to 4%, and another 1/4-point cut in the funds rate to 4 1/4%, sometime before the end of the year.

"People are pricing in a discount rate cut as soon as tomorrow," said Joseph Liro, a money market economist at S. G. Warburg & Co. "The front end is very well bid."

"We got 25 [basis points on Friday] and people are looking for another 25, so the market has room to move up," a bill trader said. "It's a carryover from Friday's employment report."

The 241,000 drop in November payrolls reported Friday was far worse than analysts expected and made it clear the economic recovery has run out of steam.

Mr. Lira said another factor feeding the short end's optimism was the realization that Friday's cut in the funds rate had not inspired banks to lower their prime rates. "It looks as if it will take more stimulus from the Fed to get banks to move," he said.

The news that the Soviet Union had ceased to be, with Russia, the Ukraine, and Byelorussia declaring the formation of a commonwealth, gave an extra push to short-term prices.

"The Soviet news gave us a little bid," the bill trader added. "I don't think it was dramatic, but people got nervous on it, so that's an added bonus."

The sharply lower short-term rates did not deter buyers at yesterday's bill auctions. There was brisk demand for the $20.49 billion of

Treasury Market Yields

Prev. Prev.

Monday Week Month

3-Month Bill 4.23 4.46 NA

6-Month Bill 4.28 4.56 NA

1-Year Bill 4.39 4.64 NA

2-Year Note 5.04 5.31 5.64

3-Year Note 5.42 5.65 5.95

4-Year Note 5.55 5.78 6.04

5-Year Note 6.22 6.41 6.64

7-Year Note 6.71 6.85 7.03

10-Year Note 7.21 7.29 7.40

15-Year Bond 7.53 7.63 7.69

30-Year Bond 7.78 7.90 7.86

Source: Cantor, Fitzgerald/Telerate

bills.

The three-month bills came at 4.21%, down from 4.39% last week and the lowest average since August, 1972, and the six-month bills came at 4.20%, also down from 4.39%, and the lowest since June, 1972.

The long end went nowhere yesterday morning but gathered steam during the afternoon as commodity prices fell.

Oil prices backed down on reports that United Nations and Iraqi officials will meet soon to discuss the conditions under which Iraq could resume exporting oil.

The long end welcomes lower commodity prices as a deflatonary factor.

The Commodity Research Bureau index closed at 211.63, down .65 on the day, and the January West Texas Intermediate oil futures contract was off 62 cents at $19.42 a barrel.

But a spate of late-day wire reports wiped out most of the gains at the long end.

Traders blamed the losses on a Reuters report that Treasury Secretary Nicholas Brady told a gathering of Republican governors that President Bush will support an "aggressive growth package" and a story on another news service that said Fed Governor Edward Kelley was optimistic about the economy and could discern some positive effect from the Fed's series of eases.

Mr. Liro said he thought the long end was becoming hardened to stories about fiscal stimulus packages.

"After the weekend, it became clear listening to the politicians that there will be some sort of a fiscal package in the first quarter," he said. "The question is what the magnitude will be."

The March bond future contract closed 3/16 higher at 100 22/32.

In the cash market, the 30-year 8% bond was 1/8 higher, at 102 12/32-102 28/32, to yield 7.78%.

The 7 1/2% 10-year note rose 3/32, to 101 28/32-102, to yield 7.21%.

The three-year 6% note was up 1/4, at 101 15/32-101 17/32, to yield 5.42%.

Rates on Treasury bills were lower, with the three-month bill down 10 basis points at 4.14%, the six-month bill off eight basis points at 4.15%, and the year bill nine basis points lower at 4.21%.

More Cuts at Chemical

Chemical Banking Corp. and Manufacturers Hanover Banking Corp. laid off 10 employees from their government trading desks yesterday as part of the preparation for their upcoming merger, spokespeople for both banks confirmed yesterday.

John Meyers, a spokesman for Manufacturers, said 10 members of the government securities operations contained in the bank's securities subsidiaries "were involved in a downsizing today."

Those affected included vice presidents and assistant vice presidents working on the government trading and financing desks, Mr. Meyers said.

He could not specify how many worked at Chemical and how many at Manufacturers. Sources said the majority of yesterday's cuts occurred at Chemical.

The banks already announced that William Pike, who ran Manufacturers' government desk, will head the combined government operations after the merger.

Both banks are now primary dealers in U.S. government securities, but once the banks are merged, the dealerships will be melded into one. The merger, announced in July, is expected to take effect at the end of this year.

Last Thursday, the banks laid off 30 executives, including 12 municipal securities professionals.

The municipal layoffs hit Manufacturers' department the hardest.

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