Aug. 8 (Bloomberg) -- Treasuries fell the most in more than a month as a rally in global stocks drew demand away from government debt after the Federal Reserve said yesterday the U.S. economy is likely to weather a housing slowdown.

A decline in 10-year notes pushed yields to the highest in almost two weeks after the government's auction of $13 billion in the securities today drew a higher yield than dealers expected. Trading in credit-default swaps showed the risk of owning corporate bonds dropped.

``The rally in the stock market is taking away demand for government debt,'' said Andy Richman, who oversees $10 billion in fixed-income assets as a strategist in West Palm Beach, Florida, for SunTrust Bank's personal asset-management division. ``People are taking money out of Treasuries and putting it into corporate debt as the economy is not going down the chute.''

The yield of the existing 10-year note rose almost 8 basis points, or 0.08 percentage point, to 4.86 percent at 4:15 p.m. in New York, according to bond broker Cantor Fitzgerald LP. It touched 4.89 percent, the highest since July 26. The price of the 4 1/2 percent security due in May 2017 fell 18/32, or $5.63 per $1,000 face amount, to 97 7/32.

Two-year note yields, which are more sensitive to changes in monetary policy than longer-maturity debt, rose 6 basis points to 4.64 percent as investors pared bets on a cut in borrowing costs.

The government's auction of 10-year notes drew a yield of 4.855 percent, higher than the average forecast of 4.841 percent from 11 bond-trading firms surveyed by Bloomberg News.

Indirect bidders, a class that includes foreign central banks, bought 32.1 percent of the auction. In the last eight new 10-year note auctions of the same amount, they bought 39.1 percent on average.

Auction Demand

For every $1 sold, there was $2.30 worth of bids, the same as for the last new auction of the notes. The bid-to-cover ratio, which gauges demand by comparing total bids with the amount of securities offered for sale, has averaged $2.35 in the last eight new 10-year note auctions.

Demand for government debt waned as stocks staged a recovery after the Fed's rate-setting committee said in a statement yesterday that job growth and a ``robust global economy'' may help the U.S. withstand losses in subprime mortgages.

U.S. stocks rose today a third straight day, with the Standard & Poor's 500 Index advancing 1.4 percent and the Dow Jones Industrial Average increasing 1.1 percent.

Credit-default swaps on the CDX North American Investment- Grade Index, a benchmark for the cost of protecting bonds against default, dropped as much as 9.25 basis points to 62.75 basis points, the lowest in more than a week. A decrease indicates improving perceptions of credit quality.

`Bit of Stabilization'

``We've seen a bit of stabilization that people were looking for in credit markets, which translates into an unwinding of the risk-aversion rally in Treasuries,'' said Joseph di Censo, fixed-income strategist in New York at Lehman Brothers Inc., one of 21 primary dealers required to bid on the auctions.

The Fed has kept its overnight rate for loans between banks at 5.25 percent since June 2006, when policy makers completed 17 quarter percentage point increases.

Trading on the November fed funds futures contract indicate traders see a 46 percent chance policy makers will lower the key rate to 5 percent in October, down from 84 percent on Aug. 6.

Economists forecast the 10-year note yield will rise to 4.96 percent this quarter and 5.01 percent by year-end, a Bloomberg News survey shows. The most recent forecasts are given the heaviest weightings.

Fannie Mae

Treasuries remained lower after U.S. Housing and Urban Development Secretary Alphonso Jackson said the government may raise the limit on purchases of home loans by Fannie Mae and Freddie Mac, the largest sources of money for home loans, in order to increase liquidity in the mortgage market.

President George W. Bush told reporters that his priority is ensuring that Fannie Mae and Freddie Mac complete their overhaul following $11.3 billion in accounting errors. Bush didn't reject the idea of raising the limits on how much the companies can buy.

Treasuries fell earlier on a report in the U.K.'s Daily Telegraph that China, the second-largest foreign holder of U.S. government debt with $407 billion, is prepared to sell its holdings in the event of U.S.-imposed trade sanctions. Japan owns $615 billion of Treasuries.

China suggested it will sell holdings of Treasuries should the U.S. impose trade sanctions to force a yuan revaluation, reported the Telegraph, citing He Fan, an official at the government-backed Chinese Academy of Social Sciences, and Xia Bin, director of the financial research department of the State Council, or cabinet. Calls by Bloomberg News to a press official at China's State Administration of Foreign Exchange weren't answered.

Treasury Secretary Henry Paulson said in an interview with CNBC that it would be ``absurd'' to think China would sell the bonds.

To contact the reporters on this story: Deborah Finestone in New York at dfinestone@bloomberg.net; Sandra Hernandez in New York at shernandez4@bloomberg.net.

Last Updated: August 8, 2007 16:20 EDT