Treasury Yields Touch 2-Year Highs as U.S. Economy Strengthens

Treasury yields reached two-year highs as reports showed a strengthening jobs market and a gain in economic indicators, suggesting the recovery is strong enough for the Federal Reserve to begin withdrawing monetary stimulus.

The yield on the benchmark 10-year note was little changed after climbing to 2.93 percent, the most since July 2011. Minutes of the Fed’s last policy meeting released yesterday showed officials are comfortable with a plan to start reducing bond buying later this year if the economy improves. The U.S. sold $16 billion of five-year Treasury Inflation Protected Securities at the highest yield since 2010.

“Economic growth is continuing at a moderate pace,” said Guy LeBas, chief fixed-income strategist at Janney Montgomery Scott LLC in Philadelphia, which oversees $11 billion in fixed-income assets. “We’ve pretty much priced in the effects of the Fed slowing down bond buying later this year.”

Ten-year yields dropped less than one basis point, or 0.01 percentage point, to 2.89 percent at 4:59 p.m. New York time, according to Bloomberg Bond Trader data. The 2.5 percent benchmark note due in August 2023 rose 2/32, or 63 cents per $1,000 face amount, to 96 21/32.

The 30-year (USGG30YR) bond yield slipped five basis points to 3.87 percent after touching 3.94 percent, the most since August 2011.

Relative Strength

An indicator of momentum used by some dealers signaled that the long bond was approaching oversold levels yesterday. The 14-day relative-strength index for the 30-year security dropped to 63, from 68 yesterday. A level above 70 indicates it has climbed too much. The last time it exceeded that level was July 5, which was followed by a two-week rally.

Treasury trading volume at ICAP Plc, the largest inter-dealer broker of U.S. government debt, rose to $369 billion, from $360 billion yesterday. The figure is down from a 2013 high of $662 billion reached on May 22 and up from a low of $148 billion on Aug. 9. The 2013 average is $313.4 billion.

Treasuries have lost investors 3.9 percent this year, according to Bloomberg U.S. Treasury Bond Index. (BUSY)

U.S. government securities due in a decade and longer plunged 14 percent in the 12 months through yesterday, the biggest loss of 174 debt indexes tracked by Bloomberg and the European Federation of Financial Analysts Societies.

“The market is saying that the Fed will be tapering,” said Michael Franzese, senior vice president of fixed-income trading at ED&F Man Capital Markets in New York. “Everybody is trying to get ahead of everybody else, that’s what’s perpetuating this downward spiral. The market is way ahead of itself.”

Leading Indicators

The number of jobless claims in the month ended Aug. 17 declined to 330,500 a week on average, the least since November 2007, a Labor Department report showed. Compared with a week earlier, claims rose by 13,000 to 336,000, in line with the median forecast of 48 economists surveyed by Bloomberg.

The index of U.S. leading indicators rose in July by the most in three months, showing the world’s largest economy will improve in the second half of 2013. The Conference Board’s gauge of the outlook for the next three to six months increased 0.6 percent after no change the prior month, the New York-based group said. The median forecast in a Bloomberg survey of economists called for a 0.5 percent advance.

The Fed’s debate over when to taper $85 billion in monthly bond buying has roiled financial markets around the world and sparked a selloff in fixed-income assets. The Fed today purchased $1.496 billion in Treasuries maturing from February 2036 to February 2043.

TIPS Auction

The TIPS sold today yielded negative 0.127 percent, the highest yield since April 2010, with investors wary of paying a premium to guard against the threat of rising consumer prices. The last sale, an $18 billion offering on April 18, drew a yield of negative 1.311 percent, the second-lowest on record, after the securities sold at a record negative 1.496 percent in December 2012.

“There are still difficult times ahead for TIPS, as there is caution from investors in reengaging the market fully after the big selloff we’ve seen,” said Carlos Pro, an interest-rate strategist at primary dealer Credit Suisse Group AG in New York. “There is a challenging outlook for inflation, with disinflation still a risk in the U.S. And that backdrop combines with the likely September taper from the Fed.”

TIPS have fallen 9.4 percent in 2013, set for the steepest annual loss since they were first sold in 1997, according to Bank of America Merrill Lynch indexes.

Demand Metrics

Investors bid for 2.18 times the amount offered at today’s sale, the same as the April auction of the securities and the lowest level since October 2008. The average at the past 10 sales was 2.77.

Indirect bidders, which include foreign central banks, purchased 38.2 percent of the sale, the lowest level since August 2012. Direct bidders purchased 8.1 percent, compared with the average of 8.9 percent for the past 10 sales.

The Fed has said it plans to keep benchmark interest rates near zero at least as long as the unemployment rate is above 6.5 percent and inflation is no more than 2.5 percent.

The U.S. will auction $34 billion in two-year notes on Aug. 27, the first cut in the offering size after selling $35 billion of the securities each month since October 2010.

“One billion dollars is not huge, but the deficit is coming down,” said David Coard, head of fixed-income trading in New York at Williams Capital Group, a brokerage for institutional investors. “The funding needs are fading.”

Offering Reduction

The U.S. is scheduled to sell $35 billion in five-year notes on Aug. 28 and $29 billion in seven-year debt the next day, with the size of both maturities unchanged since 2010.

The Treasury Department said July 31 it expects to gradually decrease coupon-auction sizes during the coming quarter as the nation’s fiscal health improves.

The Federal budget deficit for July was $97.6 billion, bringing the total for fiscal 2013, which ends Sept. 30, to $607.4 billion, the lowest to date since 2008, the Treasury said on Aug. 12.

Primary dealers expected the Fed to reduce the pace of its asset purchases in September by $15 billion, to $70 billion a month, a July survey showed.

The median forecast in the survey by the Federal Reserve Bank of New York saw the central bank buying $35 billion of Treasuries and $35 billion of mortgage-backed securities next month, according to the survey conducted before the Federal Open Market Committee’s July 30-31 meeting. The FOMC’s next meeting is scheduled for Sept. 17-18.

To contact the reporter on this story: Susanne Walker in New York at swalker33@bloomberg.net

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

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