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Treasury prices opened lower this morning but reversed direction soon after and finished the shortened trading day up by about half a point.

There was much to react to, not the least being some frantic selling in equities after the U.S. government announced air strikes against Iraq. But, this development came just before the money market closed at 2 p.m. EST, giving it little time to absorb more of the "flight-to-quality" capital.

The early depression in the money market had been due to continued adjustment by traders to the weakening platform for interest rate-cuts. Poor corporate results, as announced by two technology bellwether companies, caused the sudden turnaround for bonds. Such an inverse movement between equities and Treasuries is normal when stock market woes persuade investors to transfer their money into liquid risk-free government securities.

Treasuries retained their "safe-haven" quality through the rest of the day.

The benchmark 10-year

Treasury note rose 15/32 to 99 4/32, lowering its yield 5.5 basis points to 5.111%.

The 30-year

Treasury bond rose 18/32 to 98 27/32, lowering its yield 3.8 basis points to 5.453%.

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Going by the recent developments, economic signals are fairly mixed as home-seekers are still buying, a rapid rise in wholesale producer prices conjures inflationary fears, industrial output remains depressed and consumer sentiment has fallen some more.

"I'll take a hard number over a survey any day," said John Vail, chief strategist at

Fuji Futures

, when asked about the dramatic buying pressure on government securities after the release of the consumer sentiment data. "Some of these surveys are not very scientific and in any case, the

University of Michigan

number is still higher than it was in the last recession," he added, referring to the consumer index by its source.

"The overall January data is a bit of an uptick, but the February numbers are probably going to be quite a bit worse. Most

Federal Reserve officials are admitting that a month doesn't make a trend, but they are also trying to keep sentiment up by talking of more sustained economic growth in the second half of the year," Vail said.

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The shocker of the morning was the sudden upswing in producer prices (PPI), something that brought the danger of inflation back to the fore. With consumer spending still relatively weak and inflationary factors showing no signs of disappearing, there has also been talk of "stagflation", which essentially describes such circumstances. But economists have said it is too soon to seriously consider that scenario.

Vail said the rise in natural gas prices is a major reason for the suddenly elevated PPI, especially as this commodity has been "violently understated" in previous readings. The strong housing data surprised him but he expects a downward revision in the January results.

He added that the central bank is on a "a spin cycle...There is a lot of smoke and mirrors going on, but it seems to me that a recession is unavoidable because the economy is so overburdened at present. The Fed simply has to slow it down."

But he admits that Fed officials are not entirely to blame. "To keep confidence up, they have to hint that things are OK and therefore there is no need for another inter-meeting cut. But at the same time, they have to do whatever is possible to deflate the recession bubble. There are a lot of conflicting things going on," Vail said.

Although most analysts believe that the next

FOMC meeting on March 20 will be the stage for a third lowering of interest rates this year, Vail maintains that the equity market is the driver here.


S&P is going to test its new lows soon, I am pretty confident about that. Stocks are still sensitive to price/earnings ratios and declines in corporate earnings and high P/E ratios do not balance well. If the S&P falls to about 1250, the Fed will be forced to vote on its feet," Vail said.

About $3.4 billion has flowed out of equity funds in this month alone, and found its way into the money market or other savings and time-related deposit accounts.

He also said that if the promise of a tax cut hadn't been on the horizon, current circumstances would be worse then they are. With the benefits to come from the tax break, people are willing to spend a little more than they would have been.

Concluding with his forecast of what the Fed is likely to do over the next few weeks, Vail says that monetary policy will remain a function of how equities do. "If the Fed goes for a 25 basis-point intermeeting cut, then it will lower rates again by that amount at the FOMC meeting. If the stock market holds on, then it will be most likely a single quarter-point cut on March 20."

At the

Chicago Board of Trade

, the March

Treasury futures contract rose 17/32 to 103 24/32.

Economic Indicators


Producer Price Index


definition |

chart |


), which measures the changing costs involved in the manufacturing process, was up by 1.1% in January after a gain of 0.2% the previous month. This is way above expectations and the biggest increase in more than a decade. Economists in a


poll had predicted a 0.3% rise. The sharp upturn does not change much when excluding the more volatile food and energy prices. The index still registers 0.7% growth, which is 0.6% more than expected.

These numbers suggest that despite

Federal Reserve officials repeatedly stating that inflation remains in control, there may still be cause for concern. In such a setting, the central bank will be even more wary of lowering interest rates in the near future.

Housing starts


definition |

chart |


) show that the real estate market is retaining considerable strength. The number of new privately owned units being built rose by 5.3%, to 1.651 million in January, while 1.697 million building permits were issued in the same period, up by 12.6%. This rate hasn't been seen since Jan. 1990. Although private home building has been robust for the last three months, both numbers are higher than anticipated.

Industrial production


definition |

chart |


) fell by 0.3% last month, worse than expected since economists had predicted it to be at the same level after December's decline of 0.5%. The capacity utilization rate, which shows how much of the factory equipment and personnel is being put to use, was 80.2% for January and not much below the earlier reading of 80.7%. These anemic manufacturing numbers are well accounted for by the bond market since it is understood that this sector of the economy is having problems.


Consumer Sentiment Index


definition |

chart ), which has a 1966 base value of 100, is 87.8 in the first half of February, its lowest level since Nov. 1993 and down sharply from the revised number of 94.7 last month.

Currency and Commodities

The dollar rose against the yen and fell against the euro. It lately was worth 115.76 yen, up from 115.36. The euro was worth $0.9130, up from $0.9044. For more on currencies, see


Currencies column.

Crude oil for March delivery at the

New York Mercantile Exchange

rose to $29.16 a barrel from $28.80.


Bridge Commodity Research Bureau Index

rose to 222.93 from 222.44.

Gold for March delivery at the


rose to $258.20 an ounce from $255.10.