Treasuries Retreat as Stocks and Consumer Confidence Surge

Both developments make the Fed likelier to continue hiking interest rates.
Author:
Publish date:

Treasury notes and bonds gave back most of last week's gains today, reacting to a surprisingly strong May Consumer Confidence Index and to soaring stock prices.

Both developments support the view that the

Fed will have to continue to raise the

fed funds rate in order to slow economic growth to a pace that does not threaten to ignite inflation.

The benchmark 10-year Treasury note slid 11/32 to 100 28/32, lifting its yield 4.7 basis points to 6.374%. Shorter-maturity issues had an even tougher day. The two-year note, for one, fell 3/32 to 99 25/32, lifting its yield 6 basis points to 6.744%.

The 30-year Treasury bond lost 16/32 to 102 5/32, lifting its yield 3.6 basis points to 6.093%. At the

Chicago Board of Trade

, the September

Treasury futures contract replaced the June contract as the most actively traded, and it fell 17/32 to 94 21/32.

The Consumer Confidence Index, which had been expected by economists polled by

Reuters

to dip to 135.9, instead rose to 144.4 in May from a revised 137.7 in April. The index hit an all-time high of 144.7 in January.

That's bearish for bonds because a high level of consumer confidence is essential for strong consumer spending, and consumer spending is the principal driver of economic growth.

And it's surprising, bond market analysts said, that consumer confidence didn't moderate in May, with the Fed hinting at additional interest-rate hikes and the

Nasdaq Composite Index

struggling.

The index reading is "further evidence that it's going to take a lot of patience and Fed work to cool the economy down to a sustainable level," said Josh Stiles, Treasury market analyst at

IDEAglobal.com

.

The rise in consumer confidence "confirms our long-held view,"

First Union

chief economist David Orr said in a research note, "that the unemployment rate is by far the key determinant of consumer confidence, not stock prices." The unemployment rate hit a 30-year low of 3.9% in April, and some economists are predicting a drop to 3.8% in May, when the

employment report

is released on Friday.

The huge rally in stocks also depressed Treasury prices, for the same essential reason. Stock prices may not be the key determinant of consumer confidence, but rising stock prices are also seen as driving consumer spending.

Treasuries "were already on the defensive with the strong stock opening before the 10 o'clock number," Stiles said, referring to the Consumer Confidence Index.

The underperformance of short-maturity Treasuries is further evidence of the stock market's influence,

PaineWebber

senior fixed-income strategist Michael Ryan said. When Treasuries are being driven -- in either direction -- by the action in stocks, short-maturity issues usually lead the way, for the simple reason that they are the most liquid portion of the Treasury market. In other words, they are the easiest to liquidate in order to buy stocks, or to buy with proceeds from stock sales.

Also, when expectations about the Fed are shifting in response to stock-market moves, that affects short-term Treasuries most directly, since the interest rate controlled by the Fed is a short-term rate.

Today's rise in short-term Treasury yields relative to long-term ones, "tells you that

the selloff was more equity-related than consumer-confidence related," Ryan said.

Currency and Commodities

The dollar fell against the yen and rose against the euro. It lately was worth 106.43 yen, down from 107.15. The euro was worth $0.9299, down from $0.9310. For more on currencies, please take a look at

TSC's

Currencies column.

Crude oil for July delivery at the

New York Mercantile Exchange

rose to $30.35 a barrel from $30.00.

The

Bridge Commodity Research Bureau Index

fell to 223.39 from 224.98.

Gold for August delivery at the

Comex

rose to $275.50 an ounce from $275.00.