Wall Street Reels : MARKET SELL-OFF : FINANCIAL MARKETS : Surge in Bond Yields Sends Stocks Into Deep Decline
Treasury bond yields soared as their prices suffered their worst plunge in nearly two decades Friday after a jobs report portrayed the U.S. economy as being stronger than previously thought. The credit markets’ debacle sparked a sell-off in stocks as well.
The price of the Treasury’s bellwether 30-year bond plummeted more than 3 points, or nearly $31 for every $1,000 in face value--the biggest daily drop since the Treasury began regularly selling 30-year bonds in 1977, according to James Bianco, director of research at Arbor Trading Group Inc. in Barrington, Ill.
The bond’s yield, which moves inversely to its price, skyrocketed to a six-month high of 6.72%, up from 6.46% late Thursday. The yield was 6% two months ago.
In response, stocks were routed in one of Wall Street’s most volatile and harried days since the market crashed in October, 1987. The Dow Jones average of 30 industrials, after having tumbled as much as 215 points, closed with a 171.24-point loss at 5,470.45.
It was the third-worst daily point decline in history for the blue-chip indicator, and its biggest setback since losing 190.58 points on Oct. 13, 1989. But because the market has risen so spectacularly during the last six years--the Dow Jones industrials hit a record-high 5,642.42 on Tuesday--the average’s 3% decline Friday failed to qualify as even one of its 10 worst declines on a percentage basis. And it is still up a respectable 6.9% so far this year.
Still, there was no discounting the carnage on the New York Stock Exchange, where 2,400 stocks fell and less than 200 rose in very heavy trading. Big Board volume totaled 544.7 million shares, the fourth-busiest day on record and up from 425.7 million on Thursday.
Traders also said they’re concerned the stock market will face more rough sledding Monday if yields rise further.
They noted that a key measure of the credit markets--the 30-year Treasury bond futures contracts traded on the Chicago Board of Trade--stopped falling Friday after a 3-point plunge only because the CBT halts further trading after a loss of that size, a barrier known in futures parlance as being “limit down” for the day.
If those contracts and other bond prices tumble again Monday, stocks could face trouble, analysts said.
Friday’s action “highlights the fact that interest rates have an extraordinary impact on the valuation of equities, meaning we’re not in a position where stocks can go their merry own way if the bond market is falling apart,” said James Solloway, research director of the investment firm Argus Research in New York.
Even so, other analysts rejected making comparisons between the market’s current behavior and what happened in the fall of 1987. Back then, the Dow Jones industrials’ record 508-point crash on Monday, Oct. 19, was preceded by a 108-point drop on Friday, Oct. 16.
Economic conditions and the markets’ fundamentals are vastly different than in 1987, noted Alfred E. Goldman, chief market analyst at the investment firm A.G. Edwards & Sons Inc. in St. Louis. In a nutshell, the market today is not vastly overpriced, he said.
“In 1987, we were nine months away from an economic pullback; today we’re getting close to an economic recovery,” he said. “In August 1987, the market was selling for 22 times estimated earnings, and right now they’re at 16.5 times earnings. In ‘87, you couldn’t find a bear in the market, and today it’s about equally divided between bears and bulls.”
Some individual investors likewise seemed unconcerned about a replay of 1987. Randall Kirk, who runs broker Charles Schwab & Co.’s branch in downtown Los Angeles, said some of his clients “called in scared and were in the mood to bail out,” but others saw the correction as an opportunity and “were ready to jump in and buy.”
Regardless, analysts agreed that the recent, historic rally in stocks--the market is up more than 35% for the last 14 months--had left prices ripe for a sharp pullback. And that “correction” arrived like a lightning bolt when the Labor Department issued its report on February employment.
The report, announced before the markets opened, said the economy produced an extraordinary 705,000 new jobs last month--the biggest monthly gain in 13 years--which in turn slashed the U.S. jobless rate to 5.5% from 5.8% in January.
In the often-paradoxical logic of the financial markets, the jobs report was bad news because it indicated the economy is expanding rather than teetering on the edge of recession, as many traders believed.
If so, it means the Federal Reserve Board will be less inclined to lower short-term interest rates again any time soon, analysts said. Earlier rate cuts by the central bank, which were aimed at keeping the economy growing, had been key propellants in the bond and stock market rallies.
But the employment report “probably takes the Federal Reserve out of the picture for at least another month or so,” said Eric T. Miller, chief investment officer for Donaldson, Lufkin & Jenrette Inc.
Stock and bond prices immediately tanked when the markets opened and, after only six minutes of trading, two of the NYSE’s “circuit breakers” were triggered. The breakers, which are also known as “collars,” slow down certain kinds of trading, and they were created in the aftermath of the 1987 crash to curb volatility in the markets for stocks and stock index futures.
The first breaker kicked in when the Standard & Poor’s 500 futures contract fell 12 points on the Chicago Mercantile Exchange, and the second occurred when the Dow Jones industrials had fallen 50 points. They remained in effect for the rest of the session. The S&P; 500 index itself closed with a 20.15-point loss at 633.50.
By all accounts, the circuit breakers “appeared to be helpful” in temporarily arresting the market’s early, immediate slide, said O. Lee Reid Jr., a futures and options analyst at A.G. Edwards.
“At least the circuit breakers allowed time to give people a chance to decide whether or not to follow the herd,” he said.
The breakers were designed mainly to curb computerized “program trading” by investment firms and other institutional investors when overall market action turns volatile. One popular form of program trading is called “index arbitrage,” whereby traders buy or sell stock index futures and simultaneously take the opposite action with the indexes’ underlying stocks in order to profit from brief price differences between the two.
Despite the circuit breakers, program trading remained a key player Friday and accounted for more than 100 of the Dow Jones industrials’ 171-point decline, estimated Birinyi Associates, a Greenwich, Conn.-based firm that tracks such trading.
Losses were also widespread in the credit markets. Yields of the Treasury’s 10-year notes and 1-year bills soared as their prices were hammered, as were those of municipal bonds. The average yield on an index of 40 municipal bonds tracked by the Bond Buyer newspaper jumped to 5.88% from 5.69%.
Goldman said bond traders at times engaged in “indiscriminate, irrational dumping” of bonds, a sell-off that he said was extreme even in view of the economy’s unexpected strength.
“Nothing dramatic has changed” about the economy, he said. “The one thing that has changed is that the Fed is out of the picture for a while. But the good side is that fears of the economy going down the toilet are also out of the picture.”
So what should investors do this weekend? “Relax and see a pleasant movie,” Goldman said.
On the Big Board’s active list, Merck dropped 2 5/8 to 64 3/8 and AT&T; fell 1 7/8 to 63 1/8; American Express lost 2 to 44 5/8, but Motorola rose 5/8 to 53.
Financial stocks, sensitive to the prospect that interest rates won’t decline soon, generally fell. Federal National Mortgage tumbled 2 3/4 to 31 and Mellon Bank skidded 5 1/4 to 51 1/4.
The fear of high interest rates spread to Mexico City, where the Bolsa index fell even more than the Dow in percentage terms, 3.19%, or 90.11 points to 2,736.36. European markets closed before most of the action on Wall Street. London’s FTSE-100 index fell 47.90 points to 3,710.30. Investors were braced to see how Asian markets open Monday morning, which is late Sunday afternoon in the U.S.
The U.S. dollar, meanwhile, drew strength from the robust employment report in foreign exchange trading. The greenback was quoted at 105.72 Japanese yen in late New York activity.
Associated Press contributed to this report.
