Treasuries Decline as U.S. Prepares $42 Billion 5-Year Auction

Treasuries fell on speculation yesterday’s surge drove bond prices high enough to curtail demand when the U.S. sells $42 billion of five-year notes today.

The bonds jumped the most this year yesterday after Greece had its debt rating cut to junk. The “absolute carnage” boosted demand for safer securities such as Treasuries, Adam Carr, senior economist in Sydney at ICAP Australia Ltd., wrote to clients. The rally made Treasuries more expensive for investors who plan to bid today and at a seven-year auction tomorrow, the last of four sales this week totaling a record $129 billion.

“The market needs to cheapen a bit into the auction, and that’s to be expected with new supply coming, especially after the rally yesterday.” said David Schnautz, a fixed-income strategist at Commerzbank AG in Frankfurt. “But I expect any concession to be short-lived. The Greece crisis really boosts demand for safety.”

The yield on the benchmark 10-year note rose four basis points to 3.72 percent as of 7:20 a.m. in New York, according to BGCantor Market Data. The 3.625 percent security due February 2020 fell 10/32, or $3.13 per $1,000 face amount, to 99 6/32.

Yields slid 12 basis points yesterday, the biggest drop since Dec. 17, and touched 3.67 percent, the lowest since March 23.

“The auction could be a little weak given the rally we’ve seen,” said Adam Donaldson, Sydney-based head of debt research at Commonwealth Bank of Australia, the nation’s largest lender.

Treasury prices surged yesterday after Standard & Poor’s cut Greece’s credit ratings to high-yield, high-risk status, and borrowing costs rose in Italy, Portugal and Ireland.

‘Feeling the Love’

“Treasuries were feeling the love” as investors sought the safest securities, wrote Carr at ICAP, a unit of the world’s largest interdealer broker.

S&P forecast investors would be paid no more than half their initial outlay in the event of any restructuring of Greek debt. It lowered the long-term sovereign ratings on Greece to BB+ from BBB+, and reduced Portugal’s long-term local and foreign-currency sovereign-issuer credit ratings to A- from A+.

The MSCI World Index slid 0.8 percent. The euro fell below $1.32 yesterday for the first time since April 2009.

Default Swaps

Credit-default swaps linked to Greek government bonds surged to record high levels, signaling investors perceive it to be the world’s riskiest debt ahead of Venezuela and Argentina.

Swaps on Greece imply there’s a 54 percent probability of default over the next five years after surging 116.5 basis points to 940.5, according to CMA DataVision prices. That compares with a 48 percent likelihood of Venezuela failing to meet its commitments and 44 percent for Argentina.

Credit-default swaps are contracts for protecting bonds against default and traders use them to speculate on credit quality. An increase suggests deteriorating perceptions of credit quality. The contracts pay the buyer face value in exchange for the underlying securities if a borrower fails meet its debt agreements.

Guy Debelle, assistant governor of Australia’s central bank, said Greece isn’t affecting funding markets in his nation, easing concern short-term lending rates will rise as they did during the global financial crisis.

“It’s pretty much been confined to Europe,” Debelle said at a function organized by the Mortgage & Finance Association of Australia in Sydney.

The difference between what banks and the Treasury pay to borrow money for three months, the so-called TED spread, increased to 19 basis points, from 14 basis points at the start of April. The spread reached 4.64 percentage points in October 2008 as credit markets froze around the world following the collapse of Lehman Brothers Holdings Inc. the month before.

Breakeven Rate

The spread between yields on 10-year notes and Treasury Inflation Protected Securities, a gauge of expectations for inflation known as the breakeven rate, was at 2.34 percentage points after yesterday touching an 11-week high of 2.39 percentage points.

The Federal Open Market Committee will issue a statement at about 2:15 p.m. in Washington at the end of its two-day meeting. The panel is likely to repeat its pledge to leave its benchmark rate close to zero for an “extended period,” said Damien McColough, head of fixed-income research at Westpac Banking Corp. in Sydney.

Fed Futures

Futures on the CME Group Inc. exchange showed a 63 percent chance the Fed will raise its target rate by at least a quarter point by year-end, down from 76 percent odds a month ago.

The five-year notes being sold today yielded 2.46 percent in pre-auction trading, down from 2.605 percent at the prior sale on March 24. Investors bid for 2.55 times the amount on offer last month, matching the average for the past 10 auctions. Indirect bidders, the category of investors including foreign central banks, bought 39.7 percent of the notes, versus the 10-sale average of 49.3 percent.

The U.S. sold $44 billion of two-year notes yesterday at a yield of 1.024 percent, compared with the average forecast of 1.022 percent in a Bloomberg survey of eight of the Fed’s 18 primary dealers, companies required to bid at the government’s debt sales. Investors bid for 3.03 times the amount offered, compared with 3 times last month.

Before it's here, it's on the Bloomberg Terminal. LEARN MORE