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Treasuries Sink at Close

Treasuries' corrective move lower continued to evolve as a combination of profit-taking, convexity, and deflation hedge unwinding drove yields higher ahead of next week's Federal Open Markets Committee meeting. On balance, the curve steepened sharply as the back-end also unwound some of the risk of near-term "unconventional" policy measures from the Fed, such as targeting longer maturities in its operations.

Technical and option-driven trade underneath the sinking prices took the place of data-driven activity, with the sole release a 1.0% gain on the MBA mortgage index. Despite the curve steepener, a large cash seller of 2-year notes for 10-years was reported. Also, option strikes were rolled down (likely by mortgage players) on September 10-year notes, and both call spread buying and put buying on 10-year notes pitting the bulls vs. the bears.

A large money center bank was sizable buyer of 20,000 March 2004 euro dollar futures, which explained the stubborn bid in the front end of that futures curve compared to the back, mirroring activity along the Treasury curve as jumbo Fed easing bets were scaled back in the wake of Tuesday's jump in the core consumer price index report.

The September bond closed down 1-7/32 at 119-12, while the 2-year note and 30-year bond spread gained 9 basis points to +316 basis points. Fed funds futures implied sub-40% risk of a second July cut, vs. 60% on Monday.

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