Stocks Play Coy While Bonds Go Wild

Stocks showed both resilience and weakness in trading. Bonds bombed after first rallying on consumer confidence numbers.
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Tuesday's session demonstrated that the stock market is vulnerable, as a much weaker-than-expected consumer confidence report sent major averages sharply lower midmorning. But the session also demonstrated that equities are resilient, as traders eagerly bought the intraday dip, even if buying power waned as the afternoon progressed.

After trading as low as 9168.26 at around 10:45 a.m. EDT, the

Dow Jones Industrial Average

got back above break-even at around 2 p.m., before declining again and closing down 0.7% to 9204.46. Following similar patterns, the

S&P 500

closed down 0.7% to 989.28 vs. its intraday high of 998.64 and low of 984.15, while the

Nasdaq Composite

dipped 0.2% to 1731.37 vs. its apex of 1744.60 and nadir of 1713.20.

Strength in


(MCD) - Get Report

helped the Dow and S&P avoid wider losses, while weakness in big drugmakers weighed on blue-chip proxies. Amid rumors it will acquire

Forest Labs



Johnson & Johnson

fell 1.7%, while


(MRK) - Get Report

(rumored to be a potential buyer of other firms) shed 2.5%; the Amex Pharmaceutical Index lost 1%.

Although major averages finished lower, bulls could take some solace that the declines were fairly tame despite July consumer confidence dropping to 76.6, its lowest level in four months and far below expectations, as well as another rout in Treasuries. The price of the benchmark 10-year note fell 1 6/32 to 93 19/32, its yield rising to 4.44%, the highest level since July 31, 2002.

Meanwhile, the dollar initially weakened after the data but recovered to trade higher vs. both the euro and yen. Conversely, gold ended down a fraction amid a sense its recent rally may have stalled Monday at resistance in the $367-$368 per ounce range.

Back to stocks, bears were heartened that the session was uniformly negative and that the market's midday bounce proved ephemeral. However, volume was in line with recent levels and, somewhat appropriately, breadth provided a mixed message as it favored decliners by 5 to 3 in

Big Board

trading but was essentially even in over-the-counter activity.

"It's a very tough market to figure," said Tim Heekin, director of trading at Thomas Weisel Partners in San Francisco. "We're totally range bound between roughly

S&P 970 and 1000 and we've been waiting to see which way we break."

The trader cited a "wrestling match" over whether corporate guidance is "strong enough to warrant a further leg up" and "whether valuations after this run-up can be maintained" as key factors in the market's directionless action.

Asked to speculate on how the trading range will be resolved, Heekin leaned toward a more cautious conclusion. "I'm preferring to sell into any lifts because

relative strength indicators are starting to erode a bit," he said. "That's telling me the next move is probably to the downside before further upside."

Still, he doesn't foresee imminent upheaval for shares, suggesting the trading-range environment will probably last through summertime.

Bonds Suddenly Not So Sleepy

Clearly a major wild card in any scenario regarding stocks is the ongoing upheaval in the bond market. Since its low of 3.11% on June 13, the yield on the 10-year note has now risen 133 basis points, or a whopping 42.8%. That'd be a big move in a short time for stocks; for bonds, it's a lifetime of movement packed into a nanosecond and its fastest selloff since spring 1987.

"This is just incredible what's going on in the bond market," said Jim Bianco, president of Bianco Research in Chicago.

After initially rallying off the consumer confidence data, bonds swooned amid ongoing concerns about the burgeoning supply of Treasuries. The 30-year futures fell from an intraday high of 109 5/32 to 106 16/32, Bianco said, noting three-point intraday swings have occurred only a handful of times in bond trading, and usually only when there's been a clear catalyst or event negative for fixed-income. "This is extraordinary to see this kind of weakness on this kind of day," when both stocks and the economic news were weak.

Tuesday's slide shows the technical trend of lower Treasury prices and higher yields is "super strong" and could be the result of "panic" in the mortgage-backed securities market, Bianco continued. "Yields have gone much further and durations extended more than most thought," prompting MBS investors to recalibrate their holdings. (As yields rise, the risk of mortgage prepayments lessens, making MBS securities more attractive and Treasuries less so.)

Ongoing concerns about

Freddie Mac


Fannie Mae

are also wrapped up in the mortgage trade. Citing unnamed sources,


reported Monday that European central banks are dumping their so-called agency paper, a story picked up by

The Wall Street Journal

among other publications.

If true, central bank selling might be leaving the broker/dealer community full of agency paper, forcing them to sell Treasuries to make room for the supply, Bianco speculated. However, he noted all central bank holdings of agency paper was $183 billion on July 23, down just $1 billion from July 9, according to the New York Fed. European holdings of agency paper is "not going to zero in the next two weeks," he concluded.

Rather than unsubstantiated reports about European central banks, Bianco said the big issue affecting the Treasury market is the

Federal Reserve's

apparent desire to reignite inflationary pressures in order to fight deflation. When Fed officials downplayed hopes they'd be buyers of long-dated Treasuries and Alan Greenspan testified the central bank would remain accommodative for the foreseeable future, the so-called "bond vigilantes" came back, Bianco said. "The yield rise will keep going until they completely offset the Fed's stimulative policies, or until they get the Fed to blink and consider tightening."

It should be noted that neither of those outcomes would be particularly pleasant for stocks.

Aaron L. Task writes daily for In keeping with TSC's editorial policy, he doesn't own or short individual stocks, although he owns stock in He also doesn't invest in hedge funds or other private investment partnerships. He invites you to send your feedback to

Aaron L. Task.