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China surprised the financial markets on Thursday by announcing that it is revaluing its currency, if only modestly. China will let the yuan 'float' against a 'basket of currencies' rather than tying it to the dollar. Although this move should raise prices of goods from China, thus narrowing the U.S. trade gap, bond traders believe that it will lessen China's need to purchase U.S. Treasury securities. Although the jury is still out on this assumption, traders dumped long-term Treasury bills and bonds with vigor, sending Treasury prices plummeting. This resulted in yields, which move in the opposite direction of prices, climbing sharply. The steep rise in the yields of long-term debt, however, was welcomed by some market-watchers as this may signal the end of curve-flattening, which could lead to an inversion, which often precedes a recession. But there was no optimism in the bond pits today, and mortgage lenders were forced to raise rates on some mortgage products, especially adjustable-rate loans.

Testimony presented by Fed chief Alan Greenspan to the Senate Banking Committee had little impact on the markets, which were focused on China. Corporations are concerned about rising interest rates, and higher-priced goods from China could have a negative impact on volume retailers that rely on inexpensive merchandise.

Likewise, economic reports were disregarded. First-time unemployment claims for the week ended July 16 plunged 34,000 to 303,000 -- the largest one-week decline since December 2002. It was due in part to decreased autoworker layoffs during the summer hiatus for retooling. The more accurate four-week average also fell to 318,000 and continued claims, people receiving benefits for more than one week, declined to 2.58 million. In a separate report, the Philadelphia Fed index of July manufacturing conditions climbed out of negative territory to 9.6. This was a strong recovery from the negative 2.2 posted in June and it also beat analyst's estimates that it would hit 9.0. Any number above zero shows expansion in the sector. The Conference Board also released its report on leading economic indicators, which rose by a stronger-than-expected 0.9 percent in June. This report looks at the economy three to six months down the road. Numbers for the two previous months were revised upward.

Equity Markets Give It Back

Stocks gave back a good portion of Wednesday's gains in spite of some bullish earnings reports and good economic news. News of the revaluation of the yuan and its effects on future transactions caused uncertainty in the markets - and the financial markets don't deal well with uncertainty. The price of oil also fell, closing at $56.75, but the move had no impact.

Only six Dow components closed in positive territory, led by Coca-Cola, which posted a 1 percent gain due to earnings and revenues that beat estimates. The soft-drink giant also announced a stock buyback. Of the 24 components that closed down, 11 lost more than 1 percent, with Hewlett-Packard and Exxon the hardest hit.

The Nasdaq composite suffered the lightest losses of the three major indexes, thanks to some big gains in the wake of great earnings reports. eBay rose 20 percent after beating earnings and revenue estimates by a wide margin. Qualcomm also jumped after announcing revenues and earnings that bested forecasts. The wireless company also raised full-year estimates. Qualcomm led the tech bellwethers with an 8.1 percent gain, and Microsoft, Sun Microsystems, Ericsson and JDS Uniphase each added more than 1 percent. But there were some big losses, too. Cisco Systems lost 2.8 percent on the session and Oracle was down 2.2 percent. . Yahoo! and Intel each lost more than 1 percent.

At closing: The Dow 30 Industrial Index fell 61.38 points or 0.57 percent to10,627.77; the Nasdaq Composite index was down 9.97 points or 0.46 percent at 2,178.60, and the benchmark Standard & Poor's 500 Index lost 8.16 points or 0.66 percent to close at 1,227.04.

The 30-year Treasury bond was down 1-25/32 in price with the yield rising to 4.50 percent versus 4.39 percent at Wednesday's close. 0The 10-year Treasury note was down 29/32 in price with the yield rising to 4.27 percent versus 4.16 percent at Wednesday's close.

The 5-year Treasury note was down 8/32 in price with the yield rising to 3.99 percent versus 4.02 percent at Wednesday's close.

AVERAGE mortgage rates (zero discount points) based on rates collected nationwide were:

The 30-year Conventional Fixed-Rate Mortgage was at 5.529 percent from 5.52 percent at Wednesday's close.

The 15-year Conventional Fixed-Rate Mortgage was at 5.124 percent from 5.098 percent at Wednesday's close.

Coming Up

There are no economic indicators due Friday, but the markets will continue to digest the revaluation of the yuan and the impact that it will have on the U.S. In addition, there will be more earnings reports that could move the equity markets, although Treasuries are generally exempt from the influence of these reports. Mortgage lenders could react to today's sharp increases in Treasury yields, which serve as guidelines for setting rates. Overnight and into tomorrow mortgage rates could edge up in order to keep pace with the increase in yields.

Carolyn Siegel

carolyn@interest.com

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