Feb. 19 (Bloomberg) -- Treasuries fell, pushing the 10-year note's yield to the highest level in more than a month, on speculation accelerating inflation will prompt the Federal Reserve to be less aggressive in cutting borrowing costs.

U.S. debt securities extended their decline after an industry report today showed confidence among homebuilders had its first back-to-back monthly increase in almost a year. Traders eliminated bets the Fed will lower the target lending rate by three-quarters of a percentage point at its meeting next month, in favor of a smaller reduction.

``The Fed is almost done easing because the market won't allow more,'' said Mark MacQueen, a partner and portfolio manager in Austin, Texas, at Sage Advisory Services Ltd., which oversees $5 billion. ``Every day that passes, people become less assured there's going to be a recession. I find little value in Treasuries.''

The 10-year note's yield rose 13 basis points, or 0.13 percentage point, to 3.90 percent at 4:36 p.m. in New York, according to bond broker Cantor Fitzgerald LP. It touched 3.91 percent, the highest level since Jan. 4. The price of the 3 1/2 percent note due in February 2018 fell 1 2/32, or $10.63 per $1,000 face amount, to 96 22/32.

The yield on the two-year note increased 16 basis points to 2.08 percent, the highest level since Feb. 7. The five-year note's yield advanced 18 basis points to 2.94 percent, the biggest gain since May 2004.

Fed Rate Outlook

Fed funds futures on the Chicago Board of Trade indicated a 100 percent chance policy makers will cut the 3 percent target rate for overnight loans by a half-percentage point at the March 18 meeting, compared with 66 percent odds on Feb. 15. The chance of a three-quarter-point reduction was 34 percent on Feb. 15.

Treasuries were under pressure as demand for mortgage-debt- related hedging climbed as interest rates rose, said Tony Crescenzi, chief bond-market strategist in New York at Miller Tabak & Co., in an e-mail message.

As rates increase, mortgage investors sell longer-maturity Treasuries to maintain their duration, a measure of a bond's price sensitivity to changes in interest rates. Interest rate changes affect the rate of mortgage prepayments, which can cause duration to fluctuate.

Volatility on options for U.S. interest-rate swaps, which investors use to protect themselves against unfavorable interest rate movements, rose to the highest level in almost four years. In a swap, two parties agree to exchange fixed payments for variable-rate payments over a set period.

Yield Curve

The yield on the benchmark 10-year note, more sensitive to inflation than shorter-term debt, was 1.84 percentage points higher than two-year rates. The spread was 1.93 percentage points on Feb. 14, the most since July 2004, reflecting a steepened yield curve.

``I would bet on more steepening as the Fed is cutting and expectations are for better growth and higher inflation down the road,'' said Gary Pollack, who helps oversee $12 billion as head of fixed-income trading in New York at Deutsche Bank AG's Private Wealth Management unit.

U.S. government securities have handed investors a loss of 0.2 percent this month, according to an index compiled by Merrill Lynch & Co.

Consumer prices rose at an annual rate of 4.2 percent in the 12 months through January after a 4.1 percent pace through the previous month, according to the median forecast of 31 economists surveyed by Bloomberg News. Excluding food and energy, prices rose 2.4 percent in the year through January, economists forecast. The Labor Department will release the report tomorrow.

`Elevated' Inflation

``The trend is showing elevated levels of inflation above where the Fed would like it to be,'' said Don Alexander, director of fixed income in New York at Citigroup Global Wealth Management, which oversees about $1.3 trillion in assets. ``That makes the long end of the curve unattractive.''

Crude oil reached a record $100.10 a barrel, increasing inflation concerns. Investors also bought raw materials including metals to protect against rising prices.

The National Association of Home Builders/Wells Fargo index of builder sentiment increased to 20 this month, from 19 in January, the Washington-based group said today. The index in December reached 18, the lowest level since it was first published in January 1985. Levels under 50 mean most respondents view conditions as poor.

TIPS Spread

In a sign investors are hedging against the risk inflation will accelerate, 10-year notes yielded 2.35 percentage points more than similar-maturity Treasury Inflation Protected Securities, or TIPS, compared with 2.21 percentage points a month ago. The gap reflects the inflation rate traders expect in the next decade.

Five interest-rate cuts since September by the Fed have made 10-year Treasuries less attractive, traders said.

``We're presumably overbought at levels we don't want,'' said David Ader, head of U.S. government bond strategy in Greenwich, Connecticut, at RBS Greenwich Capital, one of the 20 primary dealers that trade directly with the Fed.

Ten-year notes could rise to between 4 percent and 4.1 percent within four to five weeks, he said. Yields last touched 4 percent on Jan. 2.

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: February 19, 2008 16:37 EST