Bonds Refusing to Follow the Script

One of the strongest things a market can do is rally on bearish news. Not all of the news this week has been bearish for debt futures, but there has been plenty to keep advances in June T-bonds (USM3:CBOT) and 10-year notes (TYM3:CBOT) in check. Still, these contracts have shaken off the negativity and traded to within one point of their contract highs.

Debt futures shrugged at Tuesday's double whammy of bearish reports for bonds. First, the Labor Department said first-quarter employment costs doubled from the previous quarter, advancing at their fastest pace since 1990. Skyrocketing health insurance accounted for much of the increase, but wage pressure also contributed.

The second would-be hit came from the Conference Board, which said consumer confidence sprinted ahead at its fastest monthly clip in 12 years. T-bonds and notes dipped slightly, but still held above two-month highs.

More significant, T-bonds and notes failed to begin pricing in the government's very bearish announcement that, starting next week, it will begin flooding the market with debt.

The government announced that $58 billion of three-, five- and 10-year notes will enter the market next week, an all-time quarterly debt issuance record. This will be the first time in nearly five years that the government will sell the three-year note, upping the smorgasbord of debt offerings. Beginning in August, the frequency of sales of both five- and 10-year notes will also increase.

The recent rise in agriculture and equity prices should also have been a downer for debt. Even the declining dollar is a negative since the paltry yields available in U.S. debt markets are dissolved when cheaper dollars are translated into stronger currencies.

Instead of tanking, debt markets have focused this week on Federal Reserve Chairman Alan Greenspan's accommodative comments and on the weak data showing declines in manufacturing activity.

I think this week's reaction hasn't adequately discounted the bearish news or the impending debt overhang. The final -- and arguably most important -- piece of economic news this week is Friday's report on the U.S. employment situation.

The report is expected to show that employers cut 25,000 jobs in April. If the payroll number doesn't stray too far from the consensus estimate, T-bonds and 10-year notes could drop in anticipation of an onslaught of government debt the following week. But the impressive behavior of debt futures suggests they will continue to climb a wall of bearish news.

Anatomy of a Setup

Not all trades work out, but the idea in any trading setup is to identify and exploit an edge. Monday's pullback-from-high setup in July soybean meal (SMN3:CBOT) has turned into a sizeable advance.

Bean meal had the hallmarks of a classic pullback setup. The contract had demonstrated momentum, and on Monday, meal gave a stronger-than-normal sign that it was good to go by lapping open above Friday's high and triggering the setup. The risk on the trade was just below Friday's 180.50 low.

Similarly, July coffee (KCN3:NYBOT) has set new two-month highs for the past few days out of its pullback. As the examples demonstrate, the pattern occurs frequently in both upside and downside momentum markets and is easy to identify and execute.

Marc Dupee is an independent trader and co-author of the book The Best: Conversations With Top Traders. Dupee was formerly markets analyst and futures editor for TradingMarkets Financial Group. At time of publication, he was short T-bonds, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. While he cannot provide investment advice or recommendations, he invites you to send your feedback to Marc Dupee.

TheStreet.com has a revenue-sharing relationship with Amazon.com under which it receives a portion of the revenue from Amazon purchases by customers directed there from TheStreet.com.

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