Treasuries closed a whippy, holiday-shortened session at the day's highs, led by a safe-haven rally in the short end. The two-year note shed more than 13 basis points on the day as a plunge in equities, weaker consumer sentiment data, and the news of an U.S. and British air strike on Iraq sent cash flowing into the safety of Treasuries.
But the day didn't begin so well for bonds, as surprising strength in the Producers Price Index (+1.1%) and housing starts (5.3%) more than erased Thursday's gains that were built on stock weakness, further diminishing the Fed's easing expectations. Bonds soon found support though, and turned around as stocks plunged deeper into the red. Weak industrial production and consumer sentiment data stampeded bulls into action as they rekindled aggressive Fed easing expectations.
Shorts covering and stops kept prices climbing into the afternoon. A convexity trade was also reinstilled in the 10s. News at the close that the Bush-authorized strikes had bombed Iraqi installations added to the flow at the short end.
Fed funds futures are back to pricing in 50 basis points of easing this quarter.