Updated from 10:31 a.m. ESTTreasury prices fell Friday, but the 10-year note still clocked for its biggest weekly gain of the year as traders bet that the Federal Reserve's rate hike cycle is coming to an end. The two-year note posted its largest weekly gain since early September, when traders bet that damage done by Hurricane Katrina would push the Fed to stop raising interest rates. "This dip in prices is nothing but a bit of a selling from those who were fortunate enough to be long yesterday," says Bernd Wuebben, senior bond market strategist at BNP Paribas. "It's a bit of a technical correction." The benchmark 10-year note ended the day down 7/32 to yield 4.67%. The yield slid as much as 11 basis points on the week in early morning trading to yield 4.66%, the largest weekly drop since it tumbled 15 basis points after Katrina. Bond prices and yields move in opposite directions. The 30-year bond fell 12/32 to yield 4.72%, the five-year lost 4/32 to yield 4.62%, and the two-year edged lower 1/32 to yield 4.64%. This time around, tamer-than-expected inflation readings have spurred traders to scale back bets on how high the Fed will raise interest rates this year, with fed funds futures showing rising odds the Fed is nearly done. The market is still betting on a 25-basis-point rate hike to 4.75% at the March 28 meeting, but the odds for a 5% rate in May have fallen to 73% from 90% at the start of the week. Additionally, the American Bankers Association's economic panel said it expects the Fed to raise rates by a quarter point at this month's meeting, but that a hike in May is less certain because the group expects to see slowing economic growth. The paring back of expectations for higher interest rates has lifted prices in recent sessions, largely offsetting declines posted earlier in the month. "I think the market is embracing ... a theme," says Wuebben, referring to hopes for a more dovish Fed. "With that, I don't think that the Fed will stop at 4.75%, even though the market is pricing a less than 5% fed funds rate for the summer." Next week's reports on producer prices, existing- and new-home sales and durables orders weighed on the market, as investors played it safe ahead of another round of data. Upcoming two-year and five-year note auctions may also have kept prices lower.
Also, Fed Chairman Ben Bernanke is slated to speak next Monday at the Economic Club of New York. His appearance will be closely monitored for dovish comments, the likes of which were delivered this week by San Francisco Fed president Janet Yellen. David Ader, bond market strategist at RBS Greenwich Capital, is also comfortable with the market pricing in 100% odds that the rate will hit 5%, and says people are overdoing the recent comments made by Yellen. She made headlines after saying this week that she will be "looking for signs of the delayed effects on output and inflation of our past policy actions and will be sensitive to the possibility that policy could overshoot." She also said that despite limited slack in the jobs market, "it's hard to find evidence suggesting upward inflationary pressures." Yellen is a voting members on the policy-setting Federal Open Market Committee. The market has posted a strong rally this week on the highest volume seen since Feb. 3, and Ader says this could eventually result in a larger technical move higher. "We can't ignore the contribution of fundamental data to the market's strength," he says, pointing to softer-than-expected core CPI gains, softer housing data, a modest upturn in weekly jobless claims and surprise softness in the Philadelphia Fed index. Friday morning's trio of economic reports came in a bit weaker than expected, but Wuebben said they were viewed largely as "in line" with forecasts. February industrial production rose by 0.7%, vs. expectations for a 0.8% gain, the Federal Reserve said. The Fed also said that capacity utilization rose to 81.2% from 80.8% in the previous month, a tad weaker than the expected 81.4%. And the preliminary read on March consumer sentiment was flat at 86.7, vs. expectations for the sentiment index to rise to 88.0. The flat growth leaves the index down 16% from the January 2004 high, but it is worth noting that consumers have continued to spend even when sentiment has fallen. In the corporate bond market, MidAmerican Energy Holdings, a utility that is majority owned by Berkshire Hathaway ( BRK.A), will issue $3.25 billion in 30-year bonds, and Tyson Foods ( TSN) will sell $1 billion in 10-year notes.