Long Treasury's Yield Soars to 5.94% on Hot Inflation Data

The 30-year's price is down more than 2 full points after upside surprises by the CPI and industrial production reports.
Author:
Publish date:

The pace of the selling has slowed somewhat, but the damage is done in the bond market. Two hotter-than-expected economic reports wreaked havoc in bonds this morning, as traders priced in a very high likelihood that the

Fed

will adopt an official bias in favor of a higher fed funds rate at its next meeting on Tuesday.

The benchmark 30-year Treasury bond was lately down 2 16/32 at 90 12/32, inflating its yield by a whopping 19 basis points to 5.94%. The last time the bond closed at a yield that high was on May 15, 1998.

The situation is worsening by the moment, but because of restrictions in the futures market, the bond is unlikely to suffer much more than a 3-point drop. The

Chicago Board of Trade

limits price movements on the Treasury bond futures contract to 3 points above or below the previous day's settlement. If the futures are halted, it's unlikely that the cash bond would get too far out of line with them.

The downdraft, which undid all of the progress that had been made during the previous two sessions, had two initial phases.

The first, and cruelest, was triggered by the 8:30 a.m. EDT release of the April

Consumer Price Index

. Both the overall and core CPI, which excludes food and energy prices, exceeded expectations by a wide margin. The overall CPI rose 0.7% vs. an average expectation among economists surveyed by

Reuters

of 0.4% and the largest gain since October 1990. The core CPI rose 0.4%, double the consensus estimate and the biggest gain since January 1995. And the gains were quite broad-based across the various categories of goods and services. The bond lost 1 29/32 before stabilizing.

Then at 9:15 a.m., the Fed released

industrial production and capacity utilization

data, key manufacturing indicators, for April. Manufacturing indicators have been mixed lately, with private-sector reports such as the

Purchasing Managers Index

and its regional counterparts rebounding strongly while manufacturing employment as measured by the monthly

employment report

has remained weak. The IP report weighed in strongly on the side of the private-sector indicators, rising 0.6%, two-tenths more than expected. And the capacity utilization rate, while still low by historical standards, rose for the second month in a row, after six consecutive months of lower or unchanged readings. To add insult to injury, the March IP and CU readings were revised sharply higher. The report cost the bond another 14/32.

Taken together, the reports have traders convinced that the risk that the

Federal Open Market Committee

will announce after its meeting on Tuesday that it has switched to a tightening bias has ballooned.

"Today serves to seal it," said Mike Franzese, a note trader at

Zions First National Bank

in Jersey City. Before today, "Everybody wanted to touch the water with their big toe, but nobody wanted to jump in. Today, everybody's jumping in."

At its Dec. 22 meeting, the

minutes of which were released in February, the committee adopted a disclosure policy under which it will announce changes in its official bias "on those occasions when it wanted to communicate to the public a major shift in its views about the balance of risks or the likely direction of future policy." (Indicating, possibly, a decreased reliance on leaks to selected journalists.) Traders and analysts are thinking that it may use the new policy for the first time next week.

Franzese is less convinced than the market at large that that's the case, chiefly because the capacity utilization rate, while higher, remains at a very low level by historical standards.

The committee is very unlikely to actually raise the fed funds rate from the 4.75% level where it's sat since November,

Dredner Kleinwort Benson

senior market economist Kevin Logan said, because "it's hard for the Fed to jump on one month's worth of data." But, he added, "if they are inclined to move to a tightening bias, this data" -- the IP figures in particular -- "would give them the cover to do it."