Treasuries Drop on Outlook for Taper as U.S. Sells 10-Year Notes

Treasuries fell, pushing 10-year note yields to a two-week high, as the U.S. sold $24 billion of the securities a day after Federal Reserve Chairman Janet Yellen said the central bank remains on course to taper bond purchases.

Ten-year yields rose for a second day after Yellen told Congress yesterday only a “notable change” in the economic outlook would lead policy makers to slow the pace of reductions. The sale drew the highest demand since June from an investor class that includes foreign central banks as yields climbed from a three-month low. U.S. bill rates fell as a bill suspending the U.S. debt limit until 2015 cleared Congress.

Yellen’s testimony to U.S. lawmakers “calmed the flight to quality in bonds, and so we’ve been able to back up,” said Thomas Roth, senior Treasury trader in New York at Mitsubishi UFJ Securities USA Inc. 

The current 10-year note yield increased four basis points, or 0.04 percentage point, to 2.76 percent at 5 p.m. New York time, according to Bloomberg Bond Trader prices. It touched 2.78 percent, the highest level since Jan. 29, after dropping to 2.57 percent on Feb. 3, the lowest since Nov. 1. The price of the 2.75 percent security due in November 2023 dropped 10/32, or $3.13 per $1,000 face amount, to 99 29/32.

Treasury trading volume at ICAP Plc, the largest inter-dealer broker of U.S. government debt, fell 7.8 percent to $309 billion. The average this year is $333 billion. Volatility as measured by the Bank of America Merrill Lynch MOVE index sank for a fifth day, the longest since October, declining to 61, the lowest level since Jan. 22.

Less Costly

Treasuries were at the least expensive level since Jan. 27, based on closing prices, according to the term premium, a Columbia Management model that includes expectations for interest rates, growth and inflation. The gauge was at 0.46 percent. A value of 0.50 percent to 0.75 percent is considered normal for a developed-market economy with slow inflation. The average over the past decade is 0.21 percent.

The auction drew a yield of 2.795 percent, the lowest level since November. The average forecast in a Bloomberg News poll of eight of the Fed’s 22 primary dealers called for 2.797 percent.

The yield compared with 3.009 percent at the January 10-year note sale, the highest since May 2011. The average at the past 10 offerings was 2.529 percent.

The bid-to-cover ratio, which gauges demand by comparing total bids with the amount of notes offered, was 2.54, versus an average of 2.65 at the past 10 sales of the maturity.

Indirect bidders, the category that includes foreign central banks, bought 49.7 percent of the notes sold, the highest level since June. The average at the past 10 auctions was 42.6 percent.

‘Great Auction’

“It was a great auction,” said Ray Remy, head of fixed income in New York at Daiwa Capital Markets America Inc., which as a primary dealer is obligated to bid in U.S. debt sales. “The indirect bidders took almost 50 percent. The back-up in yields is the major thing. It was a new issue, and the yield is 12 basis points higher than it was a week ago.”

Direct bidders, non-primary-dealer investors that place their bids directly with the Treasury, purchased 16.2 percent compared with 13.6 percent in January and an average of 18.3 percent at the past 10 sales.

Primary dealers took 34.1 percent of the notes, the lowest level since November.

An offering of $30 billion in three-year notes yesterday drew a yield of 0.715 percent, compared with the average forecast of 0.722 percent in a Bloomberg News survey of six of the Fed’s primary dealers. The bid-to-cover ratio was 3.42, versus a 10-sale average of 3.27.

Bond Auction

The U.S. will auction $16 billion in 30-year bonds tomorrow, the last of $70 billion in offerings this week of coupon-bearing securities.

Yellen, in her first monetary policy report to Congress since being sworn in as Fed chairman last week, pledged to maintain the policies of her predecessor, Ben S. Bernanke, scaling back stimulus in “measured steps.” She testified yesterday to the House Financial Services Committee. Her testimony to the Senate Banking Committee, which was scheduled for tomorrow, has been postponed.

The Fed has cut its purchases of Treasuries and mortgage debt to $65 billion a month, from $85 billion last year.

“With the Fed continuing to taper, we will continue to grind toward higher yields,” said Jason Rogan, managing director of U.S. government trading at Guggenheim Securities LLC, a New York-based brokerage for institutional investors.

The yield on the 10-year note is forecast to climb to 3.43 percent at the end of the year, according to the weighted average estimates of economists in a Bloomberg News survey.

Market Impact

Fed Bank of St. Louis President James Bullard said policy makers will probably be careful about altering the pace of their reductions to bond buying because of a potentially significant impact on markets. He spoke in an interview at Bloomberg headquarters in New York.

The Fed will probably signal the path for interest rates based on “qualitative” judgments of the economy, Bullard said earlier. That would be moving away from a pledge to begin considering raising interest rates from virtually zero when unemployment falls below 6.5 percent. The jobless rate reached 6.6 percent in January.

“We all knew the day would arrive when the unemployment rate would go through the threshold,” and the “natural thing to do” is to switch to more qualitative guidance, Bullard said in a panel discussion in New York. He doesn’t vote on monetary policy this year.

Bill Rates

U.S. bill rates dropped from the month’s highs after the Senate approved the measure suspending the U.S. debt ceiling. The House of Representatives passed it yesterday.

Rates on bills due on March 6 were 0.005 percent after surging to 0.135 percent on Feb. 4, the highest since March, amid concern there would be a debt-ceiling showdown in Congress.

An earlier suspension of the debt limit expired Feb. 7. Treasury Secretary Jacob J. Lew had said the nation’s ability to borrow might not last past Feb. 27 without an extension.

To contact the reporters on this story: Susanne Walker in New York at swalker33@bloomberg.net; Daniel Kruger in New York at dkruger1@bloomberg.net

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

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