Bloomberg News

Treasury Bonds Fall After Bernanke Keeps Stimulus Option Open

July 17, 2012

Treasury bond yields rose from almost record lows after Federal Reserve Chairman Ben S. Bernanke kept alive speculation the central bank will provide more monetary stimulus to sustain the U.S. economic recovery.

Yields had fluctuated after Bernanke initially said the central bank is ready to take further action while refraining from pledging any new policies. In response to questions during testimony before Congress, Bernanke said possible measures include further purchases of assets, such as mortgage-backed securities, reducing the interest rate that the Fed pays on reserves that banks keep with the Fed, and altering its communications on the outlook for interest rates.

“Bernanke’s testimony is enforcing the idea that the Fed stands ready, which is somewhat comforting to the market,” said Suvrat Prakash, an interest-rate strategist in New York at BNP Paribas SA, one of 21 primary dealers that trade with the Fed. “The last few times the Fed engaged in easing, yields rose as investors flooded into stocks, and we could see that again.”

Thirty-year bond yields rose five basis points, or 0.05 percentage point, to 2.60 percent at 5 p.m. New York time. They touched a record low of 2.5089 percent on June 1. Benchmark 10- year note yields gained four basis points to 1.51 percent. The all-time low, 1.4387 percent, was also set on June 1.

Bernanke, who continues testimony tomorrow, and his colleagues on the Federal Open Market Committee are considering whether the economy will need additional stimulus to reduce a jobless rate stuck above 8 percent since February 2009.

Operation Twist

The Fed under Bernanke bought $2.3 trillion of Treasury and mortgage-related debt from 2008 to 2011 to stimulate the economy. The central bank decided in June to extend a policy known as Operation Twist, in which it sells short-term securities and uses the proceeds to buy longer-term debt, to $667 billion from $400 billion. The Fed said it plans to keep borrowing costs near record lows through at least late 2014.

U.S. government debt fell earlier after the cost of living in the nation was little changed in June, a Labor Department report showed in Washington, a sign inflation may stay subdued as Fed officials have predicted. That followed a 0.3 percent drop in the consumer-price index in May. The measure matched the median forecast of economists in a Bloomberg News survey.

“The combination of safe-haven and Fed buying amid the global slowdown and continued problems in Europe has kept the Treasury market bid,” said Larry Milstein, managing director in New York of government and agency debt trading at R.W. Pressprich & Co., a fixed-income broker and dealer for institutional investors. “Investors should buy dips in Treasuries until something changes. You don’t want to fight the Fed.”

TIPS Record

The difference between yields on 10-year notes and similar- maturity Treasury Inflation Protected Securities, a gauge of expectations for consumer prices over the life of the debt known as the break-even rate, was 2.08 percentage points. The 10-year average is 2.15 percentage points.

The five-year, five-year forward break-even rate, a measure of inflation expectations that the Fed uses to guide monetary policy, was 2.4 percentage points as of July 12. The figure has dropped from 2012’s high of 2.78 percentage points set in March.

Yields on 10-year TIPS fell to a record low of negative 0.68 percent yesterday. The U.S. is scheduled to sell $15 billion of the securities July 19.

While the two gauges show expectations for price increases are waning, yields indicate there is still demand for the inflation insurance that TIPS provide.

‘Difficult Slog’

“The economy has failed to sustain the positive momentum we had coming in to the second quarter,” said Carl Lantz, head of interest-rate strategy in New York at Credit Suisse AG, a primary dealer. “Markets are resigned to this very slow and difficult slog that isn’t bringing unemployment down. And the prospect of Fed tightening seems remote, which leaves 1.5 percent yields looking more and more attractive.”

Treasuries investors advanced bets the prices of the securities will increase, becoming the most bullish since May, according to a survey by JPMorgan Chase & Co.

The proportion of net longs, or bets the securities will rise, increased to 6 percentage points in the week ending yesterday, JPMorgan said. The percentage of outright longs rose to 19 percent from 17 percent, marking the highest level of outright longs since May 21. Investors cut neutral bets to 68 percent from 70 percent and bearish bets were unchanged at 13 percent.

China, Japan

China, the largest foreign holder of Treasuries, increased its holdings of the debt for a second month in May amid gathering signs the U.S. economic recovery was losing momentum, government data released today show.

China boosted its holdings 0.4 percent or $5.2 billion in May. The data showed China held $1.1644 trillion of Treasuries in April, an increase from the $1.1455 trillion reported for the period on May 15. For the year, China’s holdings have risen 1.5 percent.

Japan’s position in U.S. government debt rose by $15.4 billion, or 1.4 percent, to $1.1052 trillion, Treasury data show. The country is the second largest foreign lender to the U.S.

Total foreign holdings of Treasuries rose for a fifth month, climbing $54.2 billion, or 1 percent to $5.264 trillion. Overseas investors held 50.2 percent of the Treasury’s outstanding public debt in May, the data show.

“Speculative investors have given up on trying to bet against the trend in rates,” said Credit Suisse’s Lantz. “People have to own Treasuries, and the yield can go even lower if this atmosphere persists.”

To contact the reporters on this story: Cordell Eddings in New York at ceddings@bloomberg.net; Daniel Kruger in New York at dkruger1@bloomberg.net

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


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