NEW YORK -- Stocks and bonds rallied yesterday in their best session in weeks, riding the crest of investor optimism brought on by low inflation data, a stabilizing dollar and some solid second-quarter corporate profits.
The bond market led stocks higher, beginning a surge yesterday morning after the government reported that retail sales rose a modest six-tenths of 1 percent in June, providing more evidence that the economy was not overheating.
This, combined with other reports this week that showed inflation to be under control, eased traders' concerns that the Federal Reserve would soon raise interest rates once again.
As bond prices rose, interest rates fell, pushing the yield down to 7.53 percent, from 7.67 percent Wednesday. Lower interest rates make stocks a more attractive investment.
Bonds gained after the dollar rose against the German mark for a third day and the Japanese yen for a second day. The dollar rose 0.30 yen, to 98.60 yen, and 1.2 pfennigs, to 1.555 marks.
The Dow Jones industrial average surged 34.97 points, to 3,739.25, while the Standard & Poor's index of 500 stocks rose 4.68 points, to 453.41.
The other market barometers, which earlier were in line with the blue-chip indicators, fell off the pace at the end.
The Nasdaq composite index shed half its gains in the afternoon after Cisco Systems plunged $4.25, to $19.75, dragging down other technology issues. Company officials said the company might face difficulty matching analysts' estimates for fourth quarter ended July 31. The Nasdaq composite finished up 2.21 points, to 721.56 percent.
On the New York Stock Exchange, advancing issues outpaced declining issues, 1,663 to 555. Volume was heavy at 322.3 million shares, up from 266.3 million Wednesday.
Hugh A. Johnson, chief investment strategist at First Albany Corp., said it was the bond market's strong surge that gave the stock market the ability to make a strong run.
"The drop in bond yields is tied to renewed market optimism about the currency and the belief that the worst is behind us," he said.
But, he cautioned that "the move by the bond market [yesterday] was much stronger than any of the fundamentals of the last three days have suggested."
Ricky Harrington, senior vice president and technical analyst with Interstate/Johnson Lane Inc., Charlotte, N.C., said he thought that over the longer term the stock market was still headed down.
"We saw economic reports this week that tended to reinforce the belief that inflation is not a problem, and the economy was moving along, " he said.
"Being oversold on a short term, it set the stage for a fairly significant rally in stocks."
Mr. Harrington said a poor earnings report could still puncture a rally in stocks, pointing to the impact of Cisco Systems' decline on other issues.
Unexpectedly strong earnings from Chrysler Corp. helped generate market optimism about corporate profits.
Chrysler, the No. 3 automaker, reported yesterday that second-quarter earnings rose nearly 40 percent, to $2.35 a share. Analysts had expected the company to earn about $2.27 a share, according to a survey by Institutional Brokers Estimates System.