US Treasury debt prices surged on Friday after news of weaker job growth in June led investors to rein in expectations of how high the Federal Reserve will raise interest rates this year.
The benchmark 10-year Treasury note jumped nearly a point, pushing its yield down to 4.46 percent from 4.57 percent late on Thursday. That left yields down 19 basis points for the week, the biggest weekly drop in six months.
Interest rate futures leaped, implying that the Fed's benchmark federal funds rate would end 2004 at 2.00 percent instead of 2.25 percent as previously expected.
Alan Ruskin, research director at 4Cast, noted a range of other indicators had slowed in June and said a situation where inflation is "sticky" and growth a bit slower did not support the notion that the Fed could raise rates aggressively.
"This (jobs) number takes a hatchet to the 50-basis-point (rate hike) club for the August Fed meeting," he added.
Interest rate futures had incorporated a real chance of a half-point hike when the Fed meets on August 10, but much of that was factored out after the jobs data.
Consequently, short-term yields fell swiftly. Yields on the two-year note slid to 2.56 percent from 2.64 percent on Thursday. That brought the drop for the week to 18 basis points, ironic given that the Fed just raised rates by 25 basis points, or a quarter percentage point.
Five-year notes rose 17/32, driving yields down to 3.61 percent from 3.73 percent. The 30-year bond rose 1-4/32, taking yields to 5.21 percent from 5.29 percent.
The catalyst for the rally was a disappointing June non-farm payrolls report. Payrolls rose 112,000 in June when analysts had looked for a gain of 250,000.
Job growth was also revised down in May and April.
The unemployment rate held steady in June at 5.6 percent.
Hourly earnings rose just slightly, combating fears that rising wages might fuel inflation.
"Wage inflation is not a problem yet and we wouldn't expect it to be," said Gary Thayer, chief economist at A.G. Edwards & Sons in St. Louis. "Unemployment is still relatively high and that will probably keep wage inflation in check."
"It looks like the Fed recognises that the economy is doing better, but that it's not overheating and that supports the view that the Fed can remove the low interest-rate policy at a measured pace," added Thayer.
The softness gelled with other indicators recently that have pointed to slower growth last quarter and prompted some analysts to cut their forecasts for gross domestic product growth in the second quarter to 3.5 percent or less when just a few weeks ago the consensus was for growth above 4.0 percent.
The second quarter GDP report is due on July 30, just before the Fed's next policy meeting. Some analysts said if that report does show a slowdown it might even convince the central bank not to hike rates.
But others doubted that view, questioning both the degree of slowdown in the economy and the ability of the bond market to rally much further.
"A lot of people are a little sceptical about the degree of the slowdown in the economy," said Chris Rupkey, vice president and senior financial economist at Bank of Tokyo/Mitsubishi in New York. "We're coming off a growth pace that was extremely fast and one month of slower growth doesn't make a trend."
Rupkey said a Fed rate hike of a quarter percentage point in August was "still a done deal" and that the bond rally would run out of steam.
"The fundamentals strongly suggest that economic growth is not weakening severely and that the Fed's pace of tightening, although measured, is still upward and will push yields up later on in the year," Rupkey said.
For bond investors, he said, "it was a good report today if you were long, but the long-term basis for this rally seems to be a little suspect."
The Treasury market closed early at 2 p.m. (1800 GMT) on Friday as traders got a head start on the three-day Independence Day holiday weekend.
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