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Two-Year Treasury Note Yield Falls to Record on Fed Speculation

Monday, 04 Oct 2010 07:53 AM

Treasury two-year yields fell to a record before a government report that economists said will show orders to U.S. factories declined, adding to speculation the Federal Reserve will increase asset purchases.

Ten-year notes rose after New York Fed president William Dudley said on Oct. 1 that the outlook for U.S. job growth and inflation is “unacceptable” and that the Fed will probably need to take action to spur the recovery. The Fed is scheduled to buy Treasuries tomorrow and the next day as part of its plan to keep borrowing costs low.

“The rhetoric does mean that the balance of probability is for more quantitative easing,” said Peter Chatwell, a fixed- income strategist at Credit Agricole Corporate & Investment Bank in London. “These QE expectations are making it very difficult to sell Treasuries with much conviction. That’s what’s keeping prices elevated.”

The two-year yield dropped to a record 0.3987 percent, according to Bloomberg generic data. Ten-year yields declined 4 basis points to 2.47 percent as of 10:34 a.m. in London, according to BGCantor Market Data. The 2.625 percent security due in August 2020 gained 11/32, or $3.44 per $1,000 face amount, to 101 11/32.

Speculation the Fed will decide to purchase additional bonds as a way to pump money into the economy has been rising since Chairman Ben S. Bernanke said on Aug. 10 that policy makers would reinvest proceeds from maturing mortgage holdings into government debt.

‘Further Action’

“Further action is likely to be warranted unless the economic outlook evolves in a way that makes me more confident that we will see better outcomes for both employment and inflation before too long,” Dudley said on Oct. 1.

Orders placed with U.S. factories declined 0.4 percent in August, the third drop in four months, according to the median estimate of economists before today’s Commerce Department data. The Labor Department will likely say on Oct. 8 that the unemployment rate rose to 9.7 percent in September from 9.6 percent in August, and overall hiring stagnated, according to Bloomberg surveys of economists.

An industry report last week showed manufacturing expanded in September at the slowest pace since November.

Separate figures today may show pending home sales increased in August, a separate survey showed.

Fed Purchases

The Fed is scheduled to buy Treasuries due from September 2016 to August 2020 tomorrow. It plans to purchase securities maturing from March 2013 to August 2014 on Oct. 6, according to its website.

So-called quantitative easing would probably push 10-year yields down 20 basis points to 30 basis points, Tom Lam, the Singapore-based chief economist at OSK-DMG, said in a report today. The company is a joint venture between Malaysian securities firm OSK Holdings Bhd. and Frankfurt-based Deutsche Bank AG.

The Stoxx Europe 600 Index of European shares dropped for a sixth day, the longest stretch of losses since January 2009, boosting demand for the safety of fixed-income assets.

Japan’s five-year yields sank to 0.245 percent, the least since June 2003, on speculation the Bank of Japan will also take steps to keep borrowing costs low at a two-day meeting that ends tomorrow.

A growing number of U.S. government securities dealers, strategists and economists say additional bond purchases may have the unintended consequences of pushing rates higher.

Yields on 10-year Treasury notes, a benchmark for everything from home mortgages to corporate bonds, rose last month for the first time since March even as the Fed hinted that it may conduct more quantitative easing to bolster the economy.

Quantitative Easing

Based on what happened when the Fed began purchasing $1.725 trillion of government debt and mortgage securities in 2009, lower yields are not a foregone conclusion. Treasuries lost 3.72 percent last year as a drop in bond prices drove the yield on the 10-year note to 3.84 percent from 2.22 percent.

“Quantitative easing is priced into the picture,” said Sean Simko, who oversees $8 billion at SEI Investments Co. in Oaks, Pennsylvania. “When the market does turn, as we’ve seen in the past, it will turn sharply and very swiftly.”

Yields indicate inflation expectations have risen over the past month.

The difference between rates on 10-year notes and Treasury Inflation Protected Securities, a gauge of trader expectations for consumer prices, widened to 1.83 percentage points from 1.67 on Sept. 3. The figure is still less than the five-year average of 2.10 percentage points.

Investors in a survey by Ried Thunberg ICAP Inc., a unit of the world’s largest inter-dealer broker, became less bearish on the outlook for Treasuries through the end of June.

Ried’s sentiment index rose to 43 for the seven days ended Oct. 1, from 42 in the week before. A figure less than 50 indicates that investors expect prices to fall.

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Treasury two-year yields fell to a record before a government report that economists said will show orders to U.S. factories declined, adding to speculation the Federal Reserve will increase asset purchases.Ten-year notes rose after New York Fed president William Dudley...
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Monday, 04 Oct 2010 07:53 AM
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