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Another Huge Bond Rally Drops Yields to New Lows

Surprise! Yesterday was only the beginning for the Treasury market.


Treasury market rallied mightily for the second day in a row, dropping yields to new lows for the year.

Yesterday's rally was fueled by

Fed Chairman

Alan Greenspan's indication that the Fed is through raising interest rates for now and possibly on the verge of lowering them, which also unleashed a huge rally in the stock market.

Today's bond rally, by contrast, happened because stocks gave up a big chunk of yesterday's gains, increasing the likelihood that the Fed will lower rates and stoking demand for bonds as an alternative investment.

"It's the same thing as yesterday -- expectations of the Fed easing imminently, as well as ongoing problems with stocks and credit quality," said Richard Gilhooly, bond market strategist at

Paribas Capital Markets


Treasury yields are vastly lower now than they were on Monday. The benchmark 10-year

Treasury note's is lower by 22 basis points. The 30-year bond's is lower by 17 basis points. The two- and five-year notes' yields are lower by 21 and 22 basis points, respectively.

The 10-year note rose 25/32 to 103 6/32, dropping its yield 10.4 basis points to 5.324%, the lowest since April 1999. The two-year note rose 4/32 to 100 12/32, lowering its yield 6.3 basis points to 5.422%, the lowest since May 1999. The five-year note rose 12/32 to 102 4/32, cutting its yield 8.5 basis points to 5.257%, also the lowest since May 1999.

The 30-year

Treasury bond rose 1 2/32 to 110 18/32, dropping its yield 16.7 basis points to 5.519%, the lowest since April 1999.

At the

Chicago Board of Trade

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, the March

Treasury futures contract rose 26/32 to 103 18/32.

Volume was huge. According to

GovPX, $34.1 billion of Treasuries changed hands, 57% more than average for a Wednesday over the past months. "There was buying from all sides,"

Merrill Lynch

bond market strategist Gerry Lucas said.

Falling stock prices create demand for Treasuries both as an alternative investment, and because they have the potential to slow economic growth by slowing spending by both consumers and businesses.

The prospect of slower economic growth increases the likelihood that the Fed will lower the

fed funds rate to stimulate the economy, which also helps the bond market. Traders of

fed funds futures today sharply upgraded the odds that the Fed will lower the fed funds rate early next year. The odds of a 6.25% fed funds rate, down from 6.5% currently, by February rose to over 100% from 84%.

A key factor in the size of the rally, Treasury market professionals said, was that it was unexpected. Many people believed that the stock market would keep going up, so they withdrew from the Treasury market. When the opposite happened, there was a rush to get on board.

"A lot of people got caught short,"

Zions First Capital Markets

trader Mike Franseze said. "No one thought we could sustain these rallies."

Reasoning that the market had gone "too far, too quickly," Merrill's Lucas said, "some people tried to counter-trade it, and got taken to the cleaners."

The action chastened those who were considering betting that Treasuries can't continue to rally, dropping yields lower still, Gilhooly said. The fact that the longest-maturity Treasuries were the best performers today "tells you people are getting more bullish on fixed-income," he said. "This is not a rally to be selling, it's one to be buying on the dips."

The prospect of more stock-market losses, combined with a weaker economy, lower interest rates and the shrinking supply of Treasury securities bodes well for the market, Gilhooly said. "You can get a powerful squeeze in Treasuries on the back of that."

Economic Indicators

In economic news, the

Beige Book


definition |


) said Federal Reserve Banks across the country reported "further evidence of slowing in economic growth." The book, which the

Federal Open Market Committee will consider at its Dec. 19 meeting, said that labor shortages were still widespread, and that wage growth was moderate, but that prices of finished goods were generally stagnant despite higher energy prices.

The weekly

Mortgage Applications Survey


definition |

chart |


) detected increases in both refinancing and new mortgage activity. The Refinancing Index rose to 663.9 from 576.4. The Purchase Index rose to 333.8 from 307.


productivity and unit labor costs


definition |

chart |


) were revised lower and higher respectively. The productivity growth rate was revised to 3.3%, a bit lower than expected, from 3.8%. The unit labor costs rate was revised to 2.9%, a bit higher than expected, from 2.5%.

Currency and Commodities

The dollar fell against the yen and the euro. It lately was worth 110.28 yen, down from 111.14. The euro was worth $0.8921, up from $0.8796. For more on currencies, see


Currencies column.

Crude oil for January delivery at the

New York Mercantile Exchange

rose to $29.85 a barrel from $29.53.


Bridge Commodity Research Bureau Index

rose to 232.05 from 229.57.

Gold for February delivery at the


rose to $277.30 an ounce from $273.30.