Jan. 25 (Bloomberg) -- U.S. Treasuries fell, pushing yields to the highest level since August, as an industry report suggested the worst of the housing slump may be over and an auction of five-year notes drew lower-than-average demand.

The $13 billion in notes were sold at a yield of 4.855 percent, the highest in six months. A gauge of demand comparing the volume of bids with the amount of securities sold was below the average of the previous dozen sales.

``The rally we had in the past has started to come undone,'' said James Caron, head of U.S. interest-rate strategy in New York at Morgan Stanley, one of 22 primary dealers that bid on Treasury auctions. ``Supply is going to weigh on the markets.''

The yield on the 10-year note rose 6 basis points, or 0.6 percentage point, to 4.87 percent at 4:05 p.m. in New York, the highest since Aug. 15, according to New York-based broker Cantor Fitzgerald LP. The increase in yield was the biggest since Dec. 22. The price of the 4 5/8 percent security maturing in November 2016 fell 15/32, or $4.69, to 98 2/32.

Treasury yields increased or held steady six of the past seven weeks as traders pared bets the Federal Reserve will cut interest rates this year to keep a residential real-estate slump from hurting the broader economy. Two-year yields, which were as much as 74 basis points lower than the Fed's rate on Dec. 5, now are only 28 basis points lower.

The auction's bid-to-cover ratio comparing the volume of bids with the amount of securities sold fell to 2.21 from 2.5 at the last five-year note sale Dec. 28, indicating weaker demand. The ratio has averaged $2.29 for the past 12 sales.

Indirect Bidding Falls

Indirect bidders, the class of investors that includes foreign central banks, bought 21.8 percent of the securities sold, compared with 48.8 percent in December.

The yield on the benchmark 10-year note broke above the 200- day moving average of 4.84 percent and may rise as high as 4.93 percent, according to Caron, who uses charts to forecast changes in bonds. That level represents a 61.8 percent reversal of the market's rally from June through December last year.

The Fibonacci method of chart analysis identifies reversals of certain magnitudes, including 61.8 percent, as likely places for moves to halt.

``The economy clearly has some momentum,'' said William Hornbarger, chief fixed-income strategist at A.G. Edwards & Sons Inc. in St. Louis. ``We could make a push to 5 percent'' on the 10-year note yield.

Sales of previously owned homes fell 0.8 percent to an annual rate of 6.22 million in December after rising the two previous months, the National Association of Realtors reported in Washington. The median forecast of 65 economists surveyed by Bloomberg News was for a 0.5 percent drop to an annual pace of 6.25 million. The number of homes on the market decreased for a second straight month in a sign the housing industry's slide may be nearing an end.

`Housing's Stabilized'

``Housing's stabilized, so the impact on the economy will be modest,'' said Bill Chepolis, who helps manages $8 billion at Deutsche Asset Management in New York. The 10-year yield ``looks like it's going to go through 4.90'' percent.

Housing starts in the U.S. unexpectedly rose in December as sales improved and the weather turned unseasonably warm. Builders broke ground on new homes at an annual rate of 1.642 million last month, up 4.5 percent from November's 1.572 million rate, the Commerce Department said Jan. 18 in Washington.

A Commerce Department report tomorrow may show new-home sales grew at an annual pace of 1.052 million in December, compared with 1.047 million the prior month, according to the median forecast of 67 economists surveyed by Bloomberg.

Oil's Impact

The decline in Treasuries also reflects a decline in demand from oil producers and Asia, according to Glen Capelo, a trader in Greenwich, Connecticut, at RBS Greenwich Capital, one of the 22 primary U.S. government securities dealers.

Falling oil prices have left producers with fewer dollars to invest, and the dollar's 1.7 percent gain against the yen this year has encouraged investors in Japan, the largest foreign holder of Treasuries, to sell.

``It is a tough moment in the market,'' Capelo said. ``It went up massively in price'' last year ``off nothing but supply and demand, and now is trading off for no fundamental reason but supply and demand.''

Interest-rate futures contracts show traders see no chance the Federal Reserve will lower its benchmark overnight lending rate from 5.25 percent at its January and March meetings. Based on July contracts, they see a 6 percent chance of a cut at the June 28 meeting, compared with 56 percent at the start of 2007.

The Fed, which meets Jan. 31, will keep its key rate steady, according to all 93 economists in a Bloomberg survey. Borrowing costs have held steady since August after 17 straight increases that started in June 2004.

``The market has come around to the view that the Fed is a lot more concerned about the inflation picture building,'' said Joseph Di Censo, a fixed-income strategist at Lehman Brothers Inc. in New York. ``The growth picture of the economy is pretty strong.''

To contact the reporter on this story: Annie Pinkert in New York at apinkert@bloomberg.net; Elizabeth Stanton in New York at estanton@bloomberg.net

Last Updated: January 25, 2007 16:12 EST