Treasury Prices Mixed After Fed Rhetoric

Fed Governor Randall Kroszner, downplaying the prospect of further interest rate cuts, said he thinks rates are low enough to get the economy through a "rough patch." And St. Louis Federal Reserve President William Poole told Dow Jones News Service the Fed is unlikely to change its policy stance unless the economy slows more than expected.

The Fed put in place 0.75 percentage points of rate reductions in September and October, sending the benchmark federal funds target rate down to 4.5 percent. Bond market investors want the Fed to cheapen the cost of money further in order to increase liquidity in the market.

"The hawkish comments from Kroszner and Poole generated some selling," said Kim Rupert, managing director of fixed income at Action Economics.

Late Thursday, the 2-year and 10-year Treasury yields sank to their lowest levels since 2005 as investors, fearful about the economy, bought Treasurys and bailed out of stocks. Treasurys are perceived as the safest asset class because they carry a government guarantee and they often rally on signs of economic weakness.

On Friday, the 10-year Treasury note fell 3/32 to 100 26/32 with a yield of 4.15 percent, up from 4.14 percent late Thursday. Prices and yields move in opposite directions.

The 30-year long bond rose 5/32 to 107 23/32 with a yield of 4.51 percent, down from 4.52 percent late Thursday.

The 2-year note dropped 1/32 to 100 18/32 with a 3.32 percent yield, unchanged from late Thursday.

After hours selling sent the benchmark 10-year note to 4.18 percent at 5:30 p.m. Eastern time, up from 4.15 percent at the 3 p.m. close. The 30-year yield rose to 4.54 percent from 4.51 percent at the close, and the 2-year yield advanced to 3.35 percent from 3.32 percent.

The yield on the 3-month bill rose to 3.38 percent from 3.31 percent late Thursday as the discount rate rose to 3.30 percent from 3.23 percent.

Sentiment in the bond market also was dented by new Treasury Department data showing that foreigners in September remained leery of U.S. assets. Monthly capital flows into the U.S. fell $14.7 billion in the month, marking the second consecutive monthly decline in the wake the credit crisis in August. The U.S. depends on foreigners to buy its debt.

"With writedowns in the financial sector ongoing and the U.S. dollar sliding, foreigners may remain gun-shy with their buying of U.S. assets in the coming months," said Robert Kavcic, an economist with BMO Capital Markets.

New data pointed to economic weakness. The Fed said industrial production plunged in October by the largest amount in nine months, reflecting a big drop in utility output and continued troubles in autos and housing-related industries.

Output at the nation's factories, mines and utilities fell by 0.5 percent last month, a much worse outcome than had been expected.

Ian Shepherdson, chief U.S. economist at High Frequency Economics, noted that recent Institute of Supply Management surveys of the manufacturing sector also have depicted factory activity as weakening. "With the ISM index falling sharply in recent months there is little chance of a near-term recovery," he said.

"It isn't just housing any more," Shepherdson added, referring to the fact that until recently some observers had hoped that economic weakness would be confined to the residential real estate sector.