Dec. 16 (Bloomberg) -- Treasuries rose, pushing the yield on 10-year and 30-year government securities to near record lows, on speculation the Federal Reserve will cut interest rates and announce plans to buy U.S. government debt.

The 30-year yield fell to 2.95 percent, close to the lowest since regular sales began in 1977, and 10-year notes dropped to 2.47 percent as investors sought the highest returns on the safest government securities. Ten-year note rates were 176 basis points more than on two-year debt, down from 253 basis points a month ago.

“We expect the Fed to go all the way to zero, and that will surprise the market,” said Axel Botte, a strategist in Paris at AXA Investment Managers, which has $800 billion in assets under management. “The market may rally” further.

The biggest financial crisis since the Great Depression is driving demand for the protection of government bonds and sending yields of three-month bills below zero for the first time last week. Financial institutions reported almost $1 trillion in writedowns and losses since the start of last year, pushing the largest economies into a recession.

The yield on the 30-year note was at 2.95 percent at 10:13 a.m. in London, according to BGCantor Market Data. The price of the 4.5 percent security due in May 2038 was little changed at 130 9/32. The five-year yield dropped three basis points to 1.46 percent. The three-month bill yield was at 0.04 percent.

Investors should buy longer-dated bonds, said Botte, who forecast the difference in yield, or spread, between two- and 10-year notes will narrow to about 1.40 percentage points, without providing a specific time frame.

Cost of Living

Government reports today may show the cost of living slumped in November by the most in six decades and homebuilding declined last month to the lowest level since records began in 1959. Treasury Secretary Henry Paulson said yesterday the U.S. economy is in a “fragile state right now.”

U.S. government bonds returned 12.7 percent this year, the most since they gained 13.4 percent in 2000, according to Merrill Lynch & Co.’s U.S. Treasury Master index. Ten-year yields have fallen from this year’s high of 4.27 percent.

The spread between two- and 10-year notes narrowed after the Fed began a two-day meeting yesterday to consider whether to cut borrowing costs or pursue other measures to stimulate economic growth in the worst financial crisis since the Great Depression.

Fed Cut Odds

Futures contracts showed a 68 percent chance the central bank will cut its 1 percent target rate for overnight bank loans to 0.25 percent. The rest of the bets are for a half-percentage point reduction.

“For the time being, we love Treasuries,” said Marc Fovinci, who helps invest $2.8 billion as head of fixed income at Ferguson Wellman Capital Management Inc. in Portland, Oregon. “As the shorter end of the curve yields you nothing, you go further out looking for more yield.”

The Bush administration is moving with “deliberative speed” in considering possible financing for U.S. automakers, Paulson said yesterday in an interview with Fox News and Fox Business Network. General Motors Corp. and Chrysler LLC may be only weeks from insolvency, the companies said in congressional hearings Dec. 4-5. Paulson said the failure of an American carmaker might deal a severe blow to the U.S. economy.

‘Quantitative Easing’

Fed Chairman Ben S. Bernanke said in a Dec. 1 speech the central bank would consider buying longer-term government debt to prevent yields from rising. One option, Bernanke said, is to buy “longer-term Treasury or agency securities on the open market in substantial quantities.” He said there was limited room to lower rates.

“What everyone is going to watch is what sort of clues they’re going to give for their next step, so-called quantitative easing,” Fovinci said. “Are they going to buy Treasuries? If the Fed expressively states that its next step is going to buy Treasuries in general, that’s obviously bullish.”

Consumer prices probably dropped 1.3 percent last month, the most since records began in 1947, according to a Bloomberg News survey. The Labor Department will release the report at 8:30 a.m. in Washington.

New-home starts in November slid to a 736,000 annual pace, the lowest level since records began in 1959, a separate Bloomberg survey showed. The Commerce Department will release the data at 8:30 a.m. in Washington.

‘Support for Treasuries’

“All this dismal, very poor economic sentiment should continue to point to support for Treasuries,” said Edward Lee, a fixed-income strategist at Standard Chartered Plc in Singapore. “We should see more evidence of that from the CPI, and of course the housing market, which remains in the doldrums.”

The 10-year breakeven rate, the difference in yields between 10-year Treasury Inflation Protected Securities and comparable U.S. notes, was little changed at 0.11 percentage point, near the narrowest since Nov. 20.

Money-market rates showed banks’ reluctance to lend may be easing amid a global round of interest-rate reductions and cash injections. The difference between what banks and the U.S. government pay to borrow money for three months, the so-called TED spread, narrowed to 1.83 percentage points, the lowest level since Nov. 11, from 1.86 points yesterday.

The Libor-OIS spread, a gauge of cash scarcity, widened one basis point to 155 basis points. The gauge, which former Fed Chairman Alan Greenspan said in June should be used as an indicator of the health of credit markets, averaged 11 basis points in the five years to August 2007.

Budget Deficits

Gains in debt may be tempered after the Treasury said the U.S. federal budget deficits are “likely to remain elevated for some time” as costs for financial bailouts and economic stimulus exceeded $1 trillion for the first time.

“Measures to boost the economy may spur hopes for a recovery and concerns over inflation,” said Yasutoshi Nagai, chief economist in Tokyo at Daiwa Securities SMBC Co., part of Japan’s second-largest brokerage. “This may lead to higher long-term yields.”

Ten-year yields may rise to 3.3 percent and 30-year yields may increase to 3.8 percent by the end of March, Nagai said.

The Treasury’s annual report yesterday showed government spending exceeded revenue by $1.01 trillion in the 12 months to Sept. 30, compared with $276 billion a year earlier, under stricter accounting methods used to calculate the shortfall.

To contact the reporters on this story: Lukanyo Mnyanda in London at lmnyanda@bloomberg.net; Ron Harui in Singapore at rharui@bloomberg.net

Last Updated: December 16, 2008 05:35 EST