Treasuries Close Lower as Stocks Post Healthy Gains

Treasury prices ended lower as stocks clawed back after the losses of last week, staving off the flow of funds toward fixed income. Investors were also selling for profits, especially with their holdings of the 10-year. Today's selling pattern caused a flattening of the yield curve, which graphs Treasury yields by date to maturity.

With no economic releases due and money managers waiting on the sidelines until the Federal Reserve decides on interest rates tomorrow, trading volume was lower than average. Yields are still in the range of their two-year lows set on Friday, though those for the two-year note showed some volatility.

The benchmark 10-year Treasury note fell 12/32 to 101 13/32, raising its yield 4.9 basis points to 4.817%.

The 30-year Treasury bond fell 9/32 to 101 7/32, raising its yield to 5.293%.

Since certain sectors of the economy are doing reasonably well, almost half of the primary dealers on Wall Street expect the Fed to ease the short-term lending rate by 50 basis points rather than by 75. Although a stock market in free fall can make the economy look especially vulnerable, the Washington Post's John Berry, a noted Fed watcher, reasoned in an article this weekend that the central bank will be wary of sending the message that it is in the business of supporting stock prices.

Many ex-Fed officials are, however, on the side of a 75-point cut. Former central bank governor Lyle Gramley has said that "the odds of a 75 basis-point move are somewhat better than 50-50. The Fed hasn't gotten much traction out of the monetary policy actions it has taken so far." Princeton University economist and former Fed vice chairman Alan Blinder adds, "It's striking how quickly the economy has downshifted."

Although interest rates were lowered in two half-point increments in January, first in an intermeeting move on Jan. 3 and then again at the scheduled FOMC meeting on Jan. 31, the style of Fed Chairman Alan Greenspan has typically been to ease in quarter-point steps. On the rare occasion when he and his team have felt the necessity of cutting by half a point, they have often discussed the action for at least some weeks before the move.

But as Greenspan himself said on Capitol Hill last month, "Old economic policy must indeed adjust itself for the changing timeframe in which the economy itself is moving." Significantly, he admitted to "the need to respond more aggressively than had been our wont in earlier decades" to the quicker adjustments made in the Information Age.

The White House's economic group is avoiding comment on the possibility of rate cuts. Unlike former Treasury Secretary Robert Rubin, who would reassure investors from time to time that the U.S. economy was sound long-term, the present office-holder, Paul O'Neill, will say nothing about the recent stock selloff. He did allude, though, to President George W. Bush's statement that nearly half of Americans had been affected due to their exposure to stocks, either directly or through retirement plans.

The Standard & Poor's Speculative Grade index, which traces the difference between the yields of Treasuries and those of speculative bonds, was at 9.404% last Friday. Although it is still below the 10.74% that was recorded just before the Fed began lowering rates this year, the spread has widened from its low of 8.8% set in mid-February. The trend reflects investor nervousness about the recent collapse of the equity market and the greater possibility of privately issued loans defaulting. Corporations compensate by offering higher rates of interest to attract buyers.

According to Moody's, corporate bond issuance is $17 billion thus far in the month, a healthy follow-up to February's record number of $41 billion. Junk-bond auctions have fallen off, but they remain on track to beat the $3.3 billion monthly average of last year.

In an interview with the French finance daily L'Agefi, Ignazio Visco, chief economist of the Organization for European Cooperation and Development (OECD), said that although the euro zone looks economically stable in the short term, interest rates could be changed if needed without risking inflation. He predicts the U.S. economy will grow by about 2% this year.

Economists at Merrill Lynch however say the U.S. Federal Reserve is the only one of the three major central banks that has been "acting responsibly" in its monetary policy. They feel that the European Central Bank (ECB) is complacent in believing that the U.S. slowdown will have a limited effect in Europe and is "dangerously behind the curve." The Bank of Japan is likely to revert to a zero-rate interest rate policy today, but Merrill economists would like it to write off bad bank loans and sell the underlying collateral. Nineteen Japanese banks were downgraded last week, causing an unwelcome ripple in the global credit markets.

In light of the deteriorating economic conditions in Japan, today's meeting between Bush and Japanese Prime Minister Yoshiro Mori at the White House took on added urgency. In a joint statement, the two leaders emphasized the need for appropriate economic policies and structural and regulatory reform to revitalize the Japanese economy and strengthen the financial system. This would include tackling the issues of corporate debt and foreign direct investment.

At the Chicago Board of Trade, the March Treasury futures contract fell 16/32 to 106 11/32, while that of June fell the same to 106 1/32.

Currency and Commodities

The dollar rose against the yen and fell against the euro. It lately was worth 122.98 yen, up from 122.97. The euro was worth $0.8984, up from $0.8972. For more on currencies, see TSC's Currencies column.

Crude oil for April delivery at the New York Mercantile Exchange fell to $26.12 a barrel from $26.74.

The Bridge Commodity Research Bureau Index fell to 214.3 from 215.11

Gold for April delivery at the Comex rose to $259.80 an ounce from $258.10.