Bloomberg News

Treasuries Decline as European Leaders Plan Second Debt Summit

October 20, 2011

Oct. 20 (Bloomberg) -- Treasuries fell, erasing losses, after European Union leaders said they’ll hold a second summit next week to address the region’s sovereign debt crisis, reducing the refuge appeal of U.S. government securities.

Ten-year note yields rose after the EU said the second crisis meeting will be on Oct. 26, following one on Oct. 23 that will go ahead as scheduled. The French and German governments said in a joint statement they agree on the need for an ambitious response to the debt crisis. A U.S. auction of 30-year inflation-indexed bonds drew a record low yield.

“Market action has all been based on the European headlines, and the latest headlines will determine where Treasuries go,” said Kevin Flanagan, a Purchase, New York-based chief fixed-income strategist for Morgan Stanley Smith Barney. “The Treasury market for the near term is policy-dependent, not data-dependent.”

Benchmark 10-year yields increased three basis points, or 0.03 percentage point, to 2.19 percent at 5:07 p.m. New York time, according to Bloomberg Bond Trader prices. They gained earlier to 2.20 percent and declined to 2.11 percent. The price of the 2.125 percent security due in August 2021 dropped 1/4, or $2.50 per $1,000 face amount, to 99 14/32.

Thirty-year yields rose four basis points to 3.22 percent after sliding to 3.12 percent and gaining to 3.23 percent.

‘Bizarre Situation’

“It’s been trading on headlines coming out of Europe, and there’s been lots of confusion as to what any given headline means,” said Thomas Simons, a government debt economist in New York at Jefferies Group Inc., one of 22 primary dealers that trade with the Federal Reserve. “It’s a bizarre situation.”

Treasuries initially reversed gains after a spokesman for German Chancellor Angela Merkel said she and French President Nicolas Sarkozy agreed to ask euro-region leaders to assess a “comprehensive and ambitious” package of measures to solve the region’s debt crisis at a leaders’ summit on Oct. 23 in order to agree on the measures at a second meeting. German government spokesman Steffen Seibert provided the information via e-mail.

European governments may come up with as much as 940 billion euros ($1.3 trillion) to fight the debt crisis by combining the temporary and planned permanent rescue funds, two people familiar with the discussions said.

Negotiations over pairing the two funds accelerated this week after efforts to leverage the temporary fund ran into European Central Bank opposition and provoked a clash between Germany and France, said the people, who declined to be identified because a decision rests with political leaders.

‘Bouncing Around’

Benchmark U.S. 10-year notes will likely react sharply to the outcome of the European deliberations, according to Brett Rose, an interest-rate strategist in New York at the primary dealer Citigroup Inc.

“A weak outcome or a lack of an outcome could take yields down 20 basis points, and a strong outcome well above consensus could take yields about 20 basis points higher,” he said. “We’re bouncing around in the middle here as expectations change.”

Treasuries fluctuated earlier as government data showed manufacturing in the Philadelphia area increased this month and initial claims for jobless benefits in the U.S. slipped by 6,000, to 403,000, in the week ended Oct. 15. The Fed Bank of Philadelphia’s regional factory gauge rose to 8.7, from minus 17.5 in September. Readings higher than zero signal expansion.

U.S. government securities have lost 0.8 percent in October, the most during a month since December, Bank of America Merrill Lynch data show. An index of sovereign bonds around the world declined 0.7 percent over the same period.

Note Auctions

The U.S. will auction next week $35 billion in two-year notes, an equal amount in five-year securities and $29 billion in seven-year debt, the Treasury Department said. The government sold the same amounts of the maturities last month.

The Fed sold $8.87 billion of Treasuries due from August 2012 to March 2013 as part of its plan to replace $400 billion of short-term debt in its portfolio with longer-term Treasuries in a program known as Operation Twist to reduce borrowing costs.

St. Louis Fed President James Bullard said policy makers should wait until 2012 before considering additional stimulus because recent reports have indicated growth has picked up.

“It is reasonable to wait and see how the Twist policy affects the economy,” Bullard said during an economic conference at his bank. “Given that the tone of the data has been better, you want to get into next year” before considering more action.

TIPS Sale

The 30-year TIPS sold today, due in February 2041, drew a yield of 0.999 percent, compared with a forecast of 1.038 percent in a Bloomberg News survey of eight primary dealers. The last sale of the maturity, on June 23, drew a then-record low yield of 1.744 percent.

The bid-to-cover ratio, which gauges demand by comparing total bids with the amount of securities offered, was 3.06, versus an average of 2.70 at the past four sales of the maturity since auctions of the security were resumed in February 2010 after the Treasury stopped selling them in 2001.

“There was clearly a strong reception to the TIPS auction,” said Ian Lyngen, a government bond strategist at CRT Capital Group LLC in Stamford, Connecticut. “There is demand for the inflation protection over the next 30 years.”

Inflation-indexed notes pay interest at lower rates than nominal Treasuries on a principal amount that’s linked to the Labor Department’s consumer price index.

--Editors: Greg Storey, Paul Cox

To contact the reporters on this story: Susanne Walker in New York at swalker33@bloomberg.net; Cordell Eddings in New York at ceddings@bloomberg.net

To contact the editor responsible for this story: Dave Liedtka at dliedtka@bloomberg.net


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