Treasury yields rose to their highest levels in 22 months yesterday as the market's uncertain outlook continued to compel long-term investors to sell securities.
Among the factors which are weighing on the market near term are higher commodities prices, the weak dollar, and expectations for tighter monetary policy.
But taking a longer-term view, market players are growing increasingly pessimistic about the bond market's performance in the second half of 1994 and closing out longstanding positions.
"The great 1993 speculative bubble in bonds continues to deflate," said Alan Levinson, chief economist at UBS Securities Inc. "The consensus fixed-income manager is now capitulating to the reality that the economy is strong, and that the Fed has embarked on a multi-year tightening mission."
The latest blow, he said, came Friday when the June employment report showed that the economy continues to grow at an above-average pace and rekindled fears of a nearterm credit tightening by the Federal Reserve.
The 30-year bond closed Monday's session down more than 1/4 of a point, to yield 7.71%. The last time the yield closed at that level was on Nov. 9. 1992.
Treasury Market Yields Prev. Prev. Monday Week Month3-Month Bill 4.53 4.28 4.196-Month Bill 5.03 4.81 4.661-Year Bill 5.57 5.48 5.162-Year Note 6.25 6.15 5.873-Year Note 6.58 6.46 6.205-Year Note 7.07 6.93 6.657-Year Note 7.27 6.97 6.6910-Year Note 7.45 7.31 7.0530-Year Bond 7.71 7.60 7.35 Source: Cantor, Fitzgerald/Telerate
Selling began in overseas trading in response to volatility in the global foreign exchange markets. The meeting of the Group of Seven industrialized nations over the weekend produced little news for the currency markets. Most importantly, there was no agreement to stabilize the sinking dollar. As a result, speculators spent most of the session testing the dollar's downside. The U.S. unit finished the day at 97.45 Japanese yen and 1.5262 German marks, but not before lows of 97.30 yen and 1.5210 marks were established.
Helping to spread the sell-off fever were higher commodities prices. The Knight Ridder Commodity Research Bureau index of 21 key futures prices came under upward pressure Monday from the precious metals sector, particularly gold. The CRB closed up almost 2 1/2 points to 230.94.
Fears of higher short-term interest rates also took their toll on the Treasury market yesterday. The surprisingly robust June employment report did a job on the Treasury market Friday, sending prices sharply lower as investors dumped securities. June nonfarm payrolls rose by 379,000, while the civilian unemployment rate was unchanged from May at 6%.
So strong were the statistics that speculation in the bond market turned from whether the Fed would raise interest rates to when it will. "This week's buzz in the U.S. fixedincome market is likely to center on 'Will they or won't they,'" said Matthew Alexy, senior market strategist at CS First Boston Corp. "The 'they' we refer to, of course, is the Federal Reserve. The 'what' is official interest rates."
The real test for the market will be this week's double dose of inflation news from the Labor Department, analysts said. With commodities on the rise and the dollar testing all-time lows against the Japanese yen and the German mark, the bond market is extremely vulnerable to signs of upward price pressures.
"The critical reports will be the producer price and consumer price data on Tuesday and Wednesday and the retail sales report on Thursday," said Dana Johnson, head of market analysis at First Chicago Capital Markets Inc.
Johnson expects the PPI report to be benign, showing a rise of 0.2% on both the total rate and the core rate, with higher oil prices being offset by softer food prices.
The CPI report, however, will probably be a problem for the fixedincome markets, Johnson said. He expects a 0.4% increase in the total rate and a 0.3% increase in the core, with gasoline prices accounting for much of the increase. However, another 0.3% increase in the core "would be reasonably compelling evidence that systematic inflation pressures are gradually beginning to build."
In futures, the September bond contract ended down 8/32 at 100.10.
In the cash markets, the 6% two-year note was quoted late Monday down 2/32 at 99.16-99.17 to yield 6.25%. The 6 3/4% five-year note ended down 6/32 at 98.19-98.21 to yield 7.07%. The 7 1/4% 10-year note was down 9/32 at 98.15-98.19 to yield 7.45%, and the 6 1/4% 30-year bond was down 9/32 at 82.30-83.02 to yield 7.71%.
The three-month Treasury bill was up seven basis points at 4.53%. The six-month bill was up four basis points at 5.03%, and the year bill was up four basis points at 5.57%.
Standard & Poor's Corp. formally unveiled plans to begin highlighting certain derivative and hybrid securities by attaching an "r" symbol to ratings to alert investors that the instruments may experience high volatility or dramatic fluctuations in their expected returns because of market risk.
Since its debt ratings address credit risk only, the addition of the "r" rating neither modifies nor changes existing credit ratings, Standard & Poor's said. The new symbol will clarify certain derivatives and hybrid securities' rating definitions for investors, the agency said.
Standard & Poor's said the "r" rating will be used when the agency believes that noncredit risks may have a significant impact on an obligation's valuation. For example, expected return can be affected by equity or commodity risk, unknown and possibly severe prepayment risk, or currency risk.
The policy will apply to all market sectors. A list of affected securities will be published in the July 18, 1994, edition of CreditWeek, Standard & Poor's said.
In the secondary market for corporate securities, spreads of investment-grade issues narrowed by 1/8 to 1/4 of a point, while high-yield issues generally ended unchanged.