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Jobs Data Helped Bond Market Come Back to Earth

After initially running bonds despite the hot January jobs numbers, traders reversed course.

Updated from 10 a.m. EST.

Bond prices fell furiously Friday, reversing a good deal of Thursday's rally after a report showed that U.S. labor conditions tightened, and wage growth accelerated, in January.

The session also marked a partial return to normalcy after several days of turmoil in the bond markets. Although the market is still rife with signs of illness (like the inverted yield curve), its ability to sell off in the face of strong economic data was, in some ways, seen as a relief for Wall Street.

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"The drama seems to have settled down. Maybe the great panic squeezes that have taken the market up so quickly could be subsiding," said David Ader, chief market analyst at

Thomson Global Markets



nonfarm payrolls

grew at the biggest rate in two years, rising 387,000 compared to a consensus forecast of 255,000. The

unemployment rate

dipped to 4.0% from 4.1%..

Average hourly earnings

rose to $13.50 from December's $13.46. The

average workweek

increased to 34.6 hours from 34.5 hours in December.

The report further confirmed the chances that Federal Reserve policy makers will continue to raise interest rates this year.



Alan Greenspan

has repeatedly voiced his concern that tightening labor markets, and the upward pressure on wages that result, could lead to a breakout of inflation.

Following the report, fed fund futures traders at the Chicago Board of Trade priced the contract with near-100% certainty that the Fed will raise rates to 6% when it meets in March.

Bonds initially rallied, then sold off, following the report. That, say some market watchers, was a telltale sign that bond market conditions have become somewhat confused as the

Treasury Department

moves forward with plans to pay off some of the nation's debt. Treasury has already announced that the surplus will allow it to buy back some of its long-dated debt, and that it will scale back issuance of 30-year bonds.

The primary effect of Treasury's debt-reduction plan has been to give an unusual inverted shape to the yield curve. In other words, yields on short-maturity instruments are higher than those on long-maturity instruments.

The changes in the Treasury supply outlook have distorted market conditions, which has caused hedges to falter, credit spreads to widen and some derivatives transactions to go sour -- phenomena that have caused a lot of pain on Wall Street.

With some of the panicked activity behind them, market participants will now start looking forward to the sizable wave of Treasury, corporate and agency bond supply that is going to hit the market over the next week.

That will include quarterly Treasury auctions of $12 billion in two-year notes and $10 billion each of 10-year notes and 30-year bonds. It will also include some heavy hitting spread product deals such as a $5 billion three-part corporate bond offering from Vodaphone Airtouch and a $3 billion five-year agency bond deal from

Fannie Mae



Analysts say that the bonds will probably continue to retrench from their current levels to accommodate all of the new supply.

"The rally earlier this week brought the market to pretty rich levels, and with a ton of supply on its way, the tendency will be to move lower," said Ader.

Despite the return to a more predictable bond market Friday, traders are still wary and seem unwilling to let down their guard.

"You have a lot of accounts long the credit products like mortgage- backed securities," said Ken Fan, treasury strategist at

Paribas Capital Markets

. "When the bond market started to run, all of the optionality in the mortgage market kicked in and there has been a lot of scrambling."

Because credit spreads have widened so quickly in recent sessions, many traders have been struggling to cover short positions in Treasuries, which had been used to hedge positions in other bonds that carry different risk profiles.

Late in the session, the 30-year Treasury bond was 1 11/32 to 98 15/32, yielding 6.24%. The 10-year note was down 18/32 to 96 8/32, yielding 6.535%. The five-year note was down 15/32 to 96 29/32, yielding 6.64%. And the two-year note was down 5/32 at 99 17/32, yielding 6.62%.

Economic Indicators

The January employment report is today's only economic release.

Currency and Commodities

The dollar was stronger against the euro, at $0.9827 vs. yesterday's late New York quote of $0.9904. Dollar/yen was lower, at 107.15.

Crude oil for March delivery at the

New York Mercantile Exchange

closed higher at the New York Mercantile Exchange is up 79 cents at $28.82 a barrel.

Gold for April delivery at the


was down at $310.40 an ounce, up $23.20 from Thursday's close.