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Treasuries End Sharply Higher

Markets Thursday reacted as if the holy grail of U.S. economic recovery is half empty, not half full. Both the Nasdaq and S&P 500 broke below their 50-day moving averages, the dollar TWI tumbled nearly 2% from 15-year highs this week and the coupon curve steepened.

Two-year yields closed below the Fed funds target of 4.0%, aiming for 3.89% -- the lowest yield since Oct. 19, 1998 after the Fed responded to the capital market seizure. The September bond lagged, but still closed up 10/32 at 101-18 as stocks continued to reel from pre-season reports and damp PPI, inventory and claims data. The 2s/30s spread widened to +165bp from the +159bp area yesterday, with May 15 wides of +166.7bp the next important threshold.

Recent data and indeed the bleak Beige Book report yesterday from the Fed have been sufficient excuse to re-evaluate U.S. recovery prospects. Record open interest in Euro$s, based mostly on rumored fund interest in the 2002 red contracts suggests that the recovery is receding over the horizon and the Fed will remain accommodative longer. Fed funds priced 25% risk of a 50bp cut by June 27, while the dollar lost some poise.

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