Treasury Yield Is Seven Basis Points From Record Low Before Fed Decision

Treasury yields were seven basis points away from a record low as economists said the Federal Reserve will announce plans to buy long-term debt as part of efforts to spur gross domestic product after a meeting today.

Rates on zero-coupon government bonds, those most sensitive to inflation, fell to a 30-month low of 3.49 percent as traders bet costs in the economy will fall as growth slows. The U.S. may slip into a recession, said Kent Smetters, a professor at the University of Pennsylvania’s Wharton School and a former Treasury Department economic policy official.

“People will continue to purchase Treasuries,” said Kei Katayama, leader of the foreign fixed-income group in Tokyo at Daiwa SB Investments Ltd., home to Japan’s second-biggest bond fund. “The market is risk averse. The flight-to-quality flows will continue.”

Benchmark 10-year rates were little changed at 1.95 percent as of 7 a.m. in London, according to Bloomberg Bond Trader prices. The 2.125 percent note maturing in August 2021 changed hands at 101 18/32. The rate was 1.877 percent on Sept. 12, the least ever based on Fed data.

The Federal Open Market Committee will decide to replace short-term Treasuries in its portfolio with long-term bonds, according to 71 percent of 42 economists surveyed by Bloomberg News. The move has been called Operation Twist because it aims to bring down long-term yields.

Daiwa SB swapped two-year Treasuries for four-year notes last week, Katayama said. Two-year rates, which set a record low of 0.1431 percent yesterday, are unattractive, while 10-year debt will be vulnerable if central bank efforts to spur the economy are successful, he said.

Yield Curve

The extra yield Treasury investors get to hold 30-year bonds instead of two-year notes was the lowest in more than a year yesterday as traders bet the Fed’s purchases will extend to the longest maturities. The gap narrowed to 3.04 percentage points, the least since August 2010 based on closing levels.

Japan’s 10-year securities yielded 0.985 percent. The rate has held in a range of 0.97 percent to 1.08 percent since the start of August.

The International Monetary Fund cut its forecast for global growth yesterday and predicted repercussions if Europe fails to contain a debt crisis or if U.S. politicians deadlock over fiscal plans. Greece is working to avoid defaulting on its borrowings, and Italy had its rating cut by Standard & Poor’s this week. In the U.S., President Barack Obama is asking Congress to approve a $447 billion job-creation plan.

IMF Forecasts

The world economy will expand 4 percent this year and next, the IMF said, compared with June forecasts of 4.3 percent in 2011 and of 4.5 percent in 2012. The U.S. growth projection for 2011 was cut to 1.5 percent from 2.5 percent in June.

“The risk of a double dip is definitely there” in the U.S., University of Pennsylvania’s Smetters said in an interview today on Bloomberg Television’s “First Up” with Susan Li. “The long-term outlook is even more scary.”

There is a possibility the Fed statement today will lead some investors to bet the U.S. economy is going to pick up, said Kazuaki Oh’e, a debt salesman in Tokyo at CIBC World Markets Japan Inc., a unit of Canada’s fifth-largest lender.

“Money may go back to equities from the bond market,” he said.

The 10-year yield will advance to 2.96 percent by the end of September 2012, according to a Bloomberg survey of banks and securities companies, with the most recent forecasts given the heaviest weightings.

Treasuries have returned 8.48 percent this year, the most since 2008 when during the last U.S. recession, Bank of America Merrill Lynch data show.

The MSCI All Country World Index of stocks has handed investors an 8.43 percent loss including reinvested dividends, according to data compiled by Bloomberg.

To contact the reporter on this story: Wes Goodman in Singapore at wgoodman@bloomberg.net

To contact the editor responsible for this story: Rocky Swift at rswift5@bloomberg.net

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Sept. 21 (Bloomberg) -- Kent Smetters, a professor at the University of Pennsylvania’s Wharton School and a former U.S. Treasury Department economic policy official, talks about the U.S. economy and Federal Reserve monetary policy. Smetters speaks with Susan Li on Bloomberg Television's "First Up." (Source: Bloomberg)