Treasuries Gain as Debt-Accord Speculation Boosts Demand at Two-Year Sale

Photographer: Susan Walsh/AP

Treasury Secretary Timothy Geithner, right, listens as Senate Majority Leader Harry Reid of Nev., speaks to reporters following a meeting of Democrats on Capitol Hill in Washington on July 14, 2011. Close

Treasury Secretary Timothy Geithner, right, listens as Senate Majority Leader Harry... Read More

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Photographer: Susan Walsh/AP

Treasury Secretary Timothy Geithner, right, listens as Senate Majority Leader Harry Reid of Nev., speaks to reporters following a meeting of Democrats on Capitol Hill in Washington on July 14, 2011.

Treasuries rose as speculation U.S. lawmakers will reach an agreement to raise the nation’s debt limit in time to avoid a default boosted investor demand at today’s auction of $35 billion in two-year notes.

The securities drew a yield of 0.417 percent, versus the average forecast of 0.414 percent in a Bloomberg News survey of seven Federal Reserve primary dealers. The bid-to-cover ratio, which gauges demand by comparing total bids with the amount of securities offered, was 3.14. That was higher than the average of 2.38 from 1998 through 2001, when the U.S. had 4 straight years of budget surpluses.

“It was a reassuring auction,” said Christian Cooper, head of U.S. dollar derivatives trading in New York at Jefferies Group Inc., which as one of the 20 primary dealers is obligated to bid in Treasury sales. “The market is really not ready to acknowledge default as a possibility at this point. If we have a poor auction, it would be telling of a shift in the perceived safety of Treasuries.”

Thirty-year bond yields dropped four basis points, or 0.04 percentage point, to 4.28 percent at 5:02 p.m. in New York, according to Bloomberg Bond Trader prices. The yields rose earlier to 4.34 percent, approaching the highest level since July 8. The 4.375 percent securities due in May 2041 gained 5/8, or $6.25 per $1,000 face amount, to 101 17/32.

The current two-year note yield declined two basis points to 0.39 percent. Ten-year yields fell five basis points to 2.95 percent after earlier rising to 3.04 percent.

Day Before Deadline

Two-year debt drew a record low auction yield of 0.395 percent on June 27. Today’s offering traded at 0.42 percent at the 1 p.m. bidding deadline. The notes will be issued on Aug. 1, a day before the federal debt deadline is reached.

Indirect bidders, an investor class that includes foreign central banks, purchased 27.7 percent of the notes at today’s sale, compared with 22 percent at the June 27 offering and an average of 32.2 percent for the past 10 auctions.

Direct bidders, non-primary dealer investors that place their bids directly with the Treasury, bought 20 percent of the notes, versus 13.5 percent last month and an average of 14.2 percent at the last 10 auctions.

“We are still among the best credits out there,” said Thomas Connor, president and head of trading at Pierpont Securities LLC in Stamford, Connecticut. “We have the biggest, deepest, most liquid bond market.”

Two More Auctions

The offering was the first of three note sales this week. The Treasury will sell $35 billion in five-year debt tomorrow and $29 billion of seven-year notes on July 28.

Senate Majority Leader Harry Reid said today he was told by credit-rating companies his deficit-cutting proposal would not prompt a downgrade of U.S. debt. Standard & Poor’s said in a statement it has “chosen not to comment on the many and varying proposals that have arisen in the current debate.”

Reid’s proposal would cut $2.7 trillion in spending and give President Barack Obama the full $2.4 trillion in additional borrowing authority he seeks, enough to get through the 2012 elections. Reid dropped Democrats’ insistence on tax increases.

House Speaker John Boehner yesterday offered a two-step plan to raise the U.S. borrowing limit and cut $3 trillion in government spending.

The Nevada Democrat said today Boehner’s plan “gives the credit agencies no choice but to downgrade U.S. debt.” Both parties are working to round up votes for the rival plans.

Treasury Secretary Timothy F. Geithner has said the U.S. will run out of options to prevent a default on Aug. 2 unless the $14.3 trillion borrowing limit is raised. The deadlock in Washington has increased the probability S&P will cut the U.S. credit rating from AAA within three months to 50 percent, the company reiterated July 21.

$100 Billion

A downgrade would likely increase Treasury rates by 60 to 70 basis points over the “medium term,” raising the nation’s borrowing costs by $100 billion a year, JPMorgan Chase & Co.’s Terry Belton said today on a conference call hosted by the Securities Industry and Financial Markets Association.

“S&P downgrade is the real threat to markets,” Pacific Investment Management Co.’s Bill Gross, who manages the world’s biggest bond fund, said in a Twitter posting.

Treasuries investors are maintaining a neutral bias rather than wagering the debt will rise or fall, according to a survey by the primary dealer JPMorgan Chase & Co.

Neutral on Treasuries

Seventy-two percent of investors in the survey maintained a neutral position in the week ended July 25, slipping from 74 percent in the week ended July 18. Six percent bet Treasuries will rise, unchanged from the July 18 survey.

“The fairly large percentage of investors that are neutral speaks to how low risk appetite is in this environment,” said Srini Ramaswamy, a JPMorgan strategist, said in a phone interview. “There’s a lot of uncertainty.”

The survey showed the first increase in the number of outright shorts, or bets that the securities will fall, since June 6, Ramaswamy said. Shorts rose to 22 percent, from 20 percent the previous week.

The Fed purchased $3.1 billion of Treasuries due from August 2018 to May 2021 today, the largest amount this month. The central bank is investing the principal payments from its debt holdings in Treasuries to help spur the economy.

To contact the reporters on this story: Susanne Walker in New York at swalker33@bloomberg.net; Joe Ragazzo in New York at jragazzo@bloomberg.net

To contact the editor responsible for this story: Dave Liedtka at dliedtka@bloomberg.net

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