Stocks, Bonds Rally on Hope of Fed Restraint
Wall Street breathed a collective sigh of relief Friday as a strong but not too-strong August employment report convinced some investors that the Federal Reserve Board won’t have to tighten credit much, if at all.
After four weeks of rising bond yields--reflecting investors’ anxiety over the economy’s healthy pace--yields ended modestly lower Friday even though the government said August’s unemployment rate was a seven-year low.
It was the second month in a row that bond yields fell after the monthly employment report. In the previous six months, each employment report triggered often-dramatic jumps in yields as the economy’s strength consistently surprised investors.
In the stock market Friday, prices rose across the board, though they closed below their best levels of the day. The Dow Jones industrial average, which fell 49.94 points on Thursday to a five-week low, gained 52.90 points Friday to 5,659.86.
Analysts said the markets’ reaction signals acceptance of the likelihood of a Fed interest rate boost to brake the economy--but a relatively small boost. The Fed’s benchmark short-term interest rate, the “federal funds” rate, has been at 5.25% since early this year.
“The market feels the Fed may now only need to raise interest rates nominally,” said Dan Ascani, president of Global Market Strategists in Gainesville, Ga.
Before the employment report, some analysts said the Fed might lift the federal funds rate as soon as Friday and by as much as half a percentage point, to 5.75%. Now the expectation is for no more than a quarter-point increase on or before the Fed’s Sept. 24 meeting.
And many analysts believe the central bank won’t hike rates at all, unless economic data over the next two weeks indicate accelerating growth that could boost inflation.
Still, the early reaction to Friday’s employment report was nasty. Bond yields soared initially as some investors interpreted data on higher average hourly earnings as hinting that higher general inflation is in the economic pipeline.
Average hourly earnings have risen at an annualized pace of 3.4% since Jan. 1, the highest since 1990. (Investor Spotlight, D5.)
The Fed has warned repeatedly that it will tighten credit and restrain the economy if it feels there is a strong risk of substantially higher inflation. Consumer prices have risen at only about a 3% rate for the last several years, but economists say that faster wage growth could drive prices up if the economy falls into the classic trap of “too much money chasing too few goods.”
Fearful of the wage growth data, bond traders dumped bonds at the outset Friday, sending the yield on the bellwether 30-year Treasury bond rocketing from 7.15% on Thursday to 7.24% in early morning.
At the Chicago Board of Trade, prices of bond futures plummeted so fast that it was difficult for anyone to sell.
But that quickly changed. Upon closer inspection of the employment report, more investors decided that the data was far less bullish for the economy and less worrisome regarding inflation. Buyers returned and yields fell. By the end of trading, the 30-year T-bond yield was at 7.10%.
Even so, analysts noted that at 7.10%, the yield remains well above the 6.69% of a month ago. The one-year T-bill yield, more sensitive to expectations about Fed moves, closed at 5.90% on Friday, down from 5.95% on Thursday but up from 5.55% a month ago.
Robert Parry, president of the Federal Reserve Bank of San Francisco, said that while the economy is “likely to slow” in the coming months, the potential for an increase in the rate of inflation persists. That was viewed as a hint that the Fed must tighten credit somewhat.
In the stock market, meanwhile, prices rallied immediately Friday. The Dow was up as much as 75 points at midday before fading toward the close.
In the broad market, winners swamped losers by 16 to 7 on the Big Board and by 22 to 15 on Nasdaq. Trading was moderate.
The stock market has traded in a fairly narrow range for most of the last month, after rebounding quickly from its July sell-off.
Analysts say stock investors seem to want to give the market--and the economy--the benefit of the doubt, believing the Fed can keep growth on an even keel with just a modest credit tightening.
Historically, however, it has rarely been good for stocks when the Fed raises rates.
Among Friday’s highlights:
* Some investors sought industrial issues that could benefit from the economy’s apparent strength. Emerson Electric rose 1 7/8 to 87, Caterpillar jumped 1 1/2 to 71 3/4, Kimberly Clark gained 1 3/8 to 80 and Bethlehem Steel added 1/2 to 10 3/4.
* Some retail issues also gained. Sears rose 1 3/8 to 44 1/2, Home Depot added 1 1/8 to 54 1/4 and Pacific Sunwear jumped 2 3/4 to 29 7/8.
* Drug stocks were strong. Bristol Myers surged 2 1/4 to 90 3/8, Eli Lilly jumped 1 3/8 to 59 and Biogen leaped 1 3/8 to 67 7/8.
Market Roundup, D4
* MORE JOBS IN AUGUST: The U.S. unemployment rate falls to 5.1%, a seven-year low. A1
