Bonds Rally on Heightened Terror Alert

Treasury bond yields dived to new generational lows Tuesday after the government raised the terrorism-alert level, spurring a rush to safety.

On Wall Street, stocks were up modestly for much of the session, sold off after the terror alert, but then recouped most of their losses by the close.

The Dow Jones industrials slipped 2.03 points to 8,491.36, stabilizing after tumbling 185.58 points Monday.

The hot action, once again, was in the Treasury bond market. Yields were drifting lower early in the day, then quickly sank after the government raised its terrorism-alert level from yellow to orange, the second-highest level gauging the risk of attacks.

Speculation that Federal Reserve Chairman Alan Greenspan would drop hints of further interest rate cuts also kept the bond market rallying. Greenspan will testify today on Capitol Hill.

Despite the lowest yields since the 1950s, “It’s a feeding frenzy” for bonds, said Andrew Brenner, head of fixed income at Investec Ernst & Co.

The two-year T-note yield fell from 1.35% on Monday to 1.26%. That left it just above the Fed’s target rate of 1.25% for the overnight loan rate among banks.

That is a sure sign investors expect the Fed to cut the overnight rate sooner than later, analysts said.

The yield on the 10-year T-note, a benchmark for mortgages, ended at 3.36%, down from 3.49% on Monday and a 45-year low.

The 10-year note yield was at 3.93% on May 2 -- shortly before the Fed warned that it is worried about deflation, or a widespread decline in prices.

Many analysts expect Greenspan today to repeat his concern about the potential for deflation, though they said he also is likely to say the central bank believes the chances of a broad deflation happening are minor.

In any case, the bond market is convinced the Fed will keep short-term rates depressed for a long time -- possibly well into 2004 -- to give the economy time to recover, experts say.

Buying of longer-term Treasury bonds also has been stoked by some portfolio managers’ need to hedge against the potential for their mortgage-backed bonds to be paid off early. As rates keep falling, mortgage refinancings are expected to surge anew.

In the stock market, some analysts were encouraged that share prices failed to extend Monday’s slide. The Monday sell-off was blamed in part on concerns about the sinking dollar, but many Wall Street pros said stocks were ripe for profit taking after the sharp gains of the last two months.

On Tuesday, rising stocks outnumbered losers by 18 to 14 on the New York Stock Exchange in active trading. On Nasdaq, losers had a 16-to-15 edge.

The Nasdaq composite index eased 1.68 points to 1,491.09. The Standard & Poor’s 500 lost 1.04 points to 919.73.

The market was helped by Home Depot’s quarterly earnings report, which drove the stock up $2.60 to $30.67. Also, Nordstrom rose $1.39 to $17.25 after reporting earnings that beat estimates.

In other trading, gold extended its recent rally, with near-term futures up $2.10 to $366.30 an ounce in New York, a three-month high. The metal is being helped by the dollar’s fall, which makes gold cheaper for many foreign buyers.

Among Tuesday’s highlights:

* Drug stocks fell again. The sector was hammered Monday after the U.S. Supreme Court allowed Maine to launch a program that would require the industry to give discounts to the uninsured.

Eli Lilly fell $2.40 to $58.35, Merck was off $1.66 to $54.99, Bristol-Myers Squibb lost $1.10 to $23.35 and Wyeth declined 75 cents to $41.

* Profit taking continued in some of the Internet and tech stocks that have gained the most in recent weeks. Expedia fell $2.07 to $64.20, Netease.com slid $1.55 to $25.35 and Avaya was off 9 cents to $6.11.

Also, health-care information systems developer Quality Systems shed $3.52 to $32.31. The Irvine company’s stock had surged from under $22 in mid-March to nearly $36 on Monday.

* Some real estate investment trust shares attracted buyers. Mack-Cali added 20 cents to $33.70, Centerpoint Properties rose 48 cents to $60.63 and Essex Property jumped $1.11 to $57.68.

Market Roundup, C6-7