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Treasury Two-Year Yields Drop to Record Low After U.S. Economy Loses Jobs

Treasuries rallied, pushing two-year note yields below 0.50 percent for the first time, after the government’s payrolls report showed the economy lost more jobs in July than economists forecast.

Bonds were headed for a weekly gain as hiring by private employers trailed estimates from analysts, encouraging speculation the Federal Reserve may provide more stimulus. Bill Gross of Pacific Investment Management Co. said investors should buy longer-maturity securities, adding that the central bank is unlikely to raise interest rates for as long as three years.

“Everything you look at is much weaker and keeps the same pro-Treasury sentiment,” said Thomas Tucci, head of U.S. government bond trading in New York at Royal Bank of Canada, one of the 18 primary dealers that trade directly with the Fed. “There will be much more discussion about another round of quantitative easing.”

The yield on the 10-year note decreased eight basis points, or 0.08 percentage point, to 2.82 percent at 4:04 p.m. in New York, according to BGCantor Market Data. The price of the 3.5 percent security maturing in May 2020 climbed 22/32, or $6.88 per $1,000 face amount, to 105 23/32.

The 2-year note yield slid three basis points to 0.51 percent, extending its weekly drop to five basis points, after falling to the all-time low of 0.4977 percent. The 10-year note yield touched 2.8130 percent, the lowest since April 2009. The 5-year note yield dropped 10 basis points to 1.50 percent after reaching 1.4851 percent, the lowest since January 2009.

Yield Curve

The extra yield investors demand to hold 10-year notes instead of 2-year debt dropped five basis points to 232 basis points. It fell to 227.5 basis points on July 1, the narrowest spread since October.

“When you get down to 50 basis points on two-years, that’s giving you a signal that there’s not much left on the table,” said Gross, founder and co-chief investment officer at Newport Beach, California-based Pimco, in a radio interview on “Bloomberg Surveillance” with Tom Keene. “So the extension out on the yield curve is what we’ve been attempting over the past several weeks and the past several months.”

Manager of the world’s biggest bond fund, Gross has been buying five-year Treasuries and holding them for a year before selling to pick up capital appreciation as well as interest income. His $239 billion Total Return Fund, which is attracting almost $1 billion a week from investors, has returned 13 percent in the past 12 months, beating 71 percent of its peers, Bloomberg data show.

Drop in Stocks

Stocks, crude oil and the dollar fell after the payrolls report added to evidence that the economic recovery is stalling. The Standard & Poor’s 500 Index lost 0.4 percent, paring its weekly gain to 1.8 percent. Crude oil for September delivery dropped 1.4 percent to $80.64 a barrel. The dollar touched a level weaker than $1.33 per euro for the first time since May 3.

“The markets are correct to be pessimistic about economic growth going forward,” said Gary Pollack, who helps oversee $12 billion as head of fixed-income trading at Deutsche Bank AG’s private wealth management unit in New York. “We’ll continue to set new lows on two-year yields for the next month or so.”

St. Louis Fed President James Bullard wrote in a paper released last week that the central bank should resume purchases of Treasuries if the economy slows and prices fall and that “the U.S. is getting closer to a Japanese-style outcome than any time in recent history.” Philadelphia Fed President Charles Plosser said in a Bloomberg News interview that calls for more Fed stimulus are premature.

Fed’s Bond Buying

The central bank used purchases of Treasury, housing-agency and mortgage-backed securities to spur growth after cutting the target lending rate for overnight lending to a range of zero to 0.25 percent in 2008. The Fed’s asset purchases increased the size of its balance sheet to a record $2.35 trillion in May from $900 billion two years earlier.

Traders reduced bets the Fed will increase borrowing costs next year. Futures on the CME Group Inc. exchange showed a 32 percent chance the central bank will raise its benchmark rate by at least a quarter-percentage point by the August 2011 meeting, compared with 49 percent odds a week ago. Policy makers meet next week on Aug. 10.

The Fed is unlikely to raise interest rates for two to three years as policy makers are on hold “for a long, long time,” Gross said in the radio interview.

In its non-farm payrolls report, the Labor Department said employers eliminated 131,000 positions in July after a revised reduction of 221,000 in the previous month. The median forecast of 84 economists in a Bloomberg News survey was for a reduction of 65,000. The unemployment rate stayed at 9.5 percent.

Private Payrolls

Private payrolls excluding government rose by 71,000 after a June gain of 31,000 that was smaller than previously reported. Economists projected a 90,000 increase in July.

Benchmark 10-year note yields rose on five of the past seven announcements of non-farm payrolls. The yields fell 4 basis points on Feb. 5, when the government reported unexpected job losses, and dropped 16 basis points on June 4, when the report showed employers added fewer jobs than economists forecast.

U.S. economic growth slowed to a 2.4 percent annual rate in the second quarter from a 3.7 percent pace in the first three months of the year. Consumer spending, pending home resales and factory orders were weaker in June than projected.

“We now have a combination of a weaker economy, no job growth, no inflation and possibly deflation, and it’s not getting better,” said Michael Cheah, who manages $2 billion in bonds at SunAmerica Asset Management Corp. in Jersey City, New Jersey. “The market can try to continue to try to find reason why we are not Japan, but if it looks like a duck and quacks like a duck, why isn’t it a duck? Investors should stay long on Treasuries as rates can go even lower on the front and back end of the curve.” A long is a bet an asset will rally.

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

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