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Treasury Yields Surge as Fed Fans Inflation Worries

Sunday, 17 October 2010 11:54 AM

Treasury 30-year bonds tumbled Friday, pushing yields to the biggest weekly increase since August 2009, on speculation that Federal Reserve efforts to spur the economy will reignite inflation.

The 30-year yield rose above 4 percent for the first time in two months after data showed retail sales rose more than forecast and New York area manufacturing climbed. Fed Chairman Ben S. Bernanke said additional stimulus may be warranted, in part because inflation is too low. The Fed will release its regional economic survey this week. The U.S. sold $66 billion of notes and bonds to lower-than-average demand.

“Out to 30 years, they’re looking and saying, ‘With the firepower the Fed can bring to bear, is it really something I feel comfortable with?’” said Mitchell Stapley, the Grand Rapids, Michigan-based chief fixed-income officer for Fifth Third Asset Management, which oversees $22 billion. “People are saying no.”

The yield on the so-called long bond climbed 23 basis points, or 0.23 percentage point, to 3.98 percent, from 3.75 percent on Oct. 8, according to BGCantor Market Data. It touched 4.01 percent Friday, the most since Aug. 10. The increase was the biggest since a 31-basis point jump for the five days ended Aug. 7, 2009. The 3.875 percent security due in August 2040 dropped 4 3/32, or $40.94 per $1,000 face amount, to 98 5/32.

The 10-year note yield rose 17 basis points, the most since December, to 2.56 percent, from 2.39 percent last week. It was the yield’s first weekly gain since Sept. 10. The five-year note yield also increased for the first week in more than a month, adding eight basis points to 1.19 percent.

Bernanke said Friday the central bank could expand asset purchases, a strategy known as quantitative easing, or change the language in its statement to try to spur the economy. He added that “nonconventional policies have costs and limitations that must be taken into account in judging whether and how aggressively they should be used.”

“There would appear -- all else being equal -- to be a case for further action,” the Fed chairman said in a speech to a Boston Fed conference.

A report Friday showed the cost of living in the U.S. rose less than forecast in September. The consumer-price index was up 0.1 percent after 0.3 percent gains in the prior two months, figures from the Labor Department showed in Washington.

The spread between yields on 30-year bonds and comparable Treasury Inflation Protected Securities, an indication of inflation expectations over the life of the securities, touched 2.61 percentage points yesterday, the widest since May 14. The five-year average is 2.4 percentage points. The gap between 10- year notes and comparable TIPS reached 2.18 percentage points on Oct. 14, also the most in five months.

The extra yield investors demand for 30-year bonds compared with 10-year debt touched a record high 1.46 percentage points yesterday. The five-year average is 0.52 percentage point, according to Bloomberg data.

“Bernanke makes no mentions of a ‘shock and awe’ approach, and indeed notes on multiple occasions that any new asset- purchase initiative should proceed with ‘caution,’” Michael Cloherty, head of U.S. rates strategy for fixed-income and currencies at Royal Bank of Canada in New York, wrote in a note to clients. “The Fed seems inclined to take a ‘baby steps’ approach.” RBC is one of the 18 primary dealers that trade with the central bank.

The Fed previously acquired about $1.7 trillion of Treasury and mortgage-related debt to sustain the recovery, concluding the program in March.

Policy makers, who have kept the benchmark interest rate at a range of zero to 0.25 percent since December 2008, are scheduled to meet next Nov. 2-3. The Fed releases its Beige Book survey of regional economic conditions on Oct. 20. Last month, it found the economic rebound showed signs of slowing.

Retail sales in the U.S. rose 0.6 percent last month, just below the 0.7 percent revised gain in August, Commerce Department data showed yesterday in Washington. Economists had forecast a rise of 0.4 percent, according to a Bloomberg survey.

The Fed Bank of New York’s Empire State manufacturing index surged to 15.73 this month, from a revised 4.14 last month. Readings greater than zero signal expansion in the area covering New York, northern New Jersey and southern Connecticut.

“The economic news was a bit better than what the market was looking for,” said Gary Pollack, who helps oversee $12 billion as head of fixed-income trading at Deutsche Bank AG’s Private Wealth Management unit in New York. “Nevertheless, we expect the Fed to announce something at the next meeting because inflation remains very low.”

The government’s auction of $13 billion of 30-year Treasuries on Oct. 14 drew $2.49 in bids per dollar of debt sold, the lowest level since February. The average for the past 10 auctions of the security was $2.70.

The $21 billion 10-year note sale the previous day drew $2.99 in bids per dollar, the lowest since May. Demand for the $32 billion offering of three-year notes on Oct. 12, $2.95 per dollar offered, compared with an average of $3.12 for the past 10 auctions.

“We are getting QE -- the question is not ‘if,’ it’s ‘how much?” said David Ader, head of government bond strategy at Stamford, Connecticut-based CRT Capital Group LLC. “We got to a level where people clearly think it’s enough for now, and we’ve got auction paper to distribute, particularly at the long end.”

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Treasury 30-year bonds tumbled Friday, pushing yields to the biggest weekly increase since August 2009, on speculation that Federal Reserve efforts to spur the economy will reignite inflation.The 30-year yield rose above 4 percent for the first time in two months after data...
Sunday, 17 October 2010 11:54 AM
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