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Treasuries Gain on Concern Greece Will Struggle to Avoid Default

Treasuries rose, pushing yields on 10-year notes to this year’s low, on speculation Greece will struggle to avoid default even as the International Monetary Fund reiterated its support.

Five-year notes advanced as Greece’s Prime Minister George Papandreou pleaded with his allies in parliament to back his austerity plans after yesterday’s debt rally pushed yields down the most in a year. Bonds got a boost as a report showed manufacturing in the Philadelphia region unexpectedly shrank.

“With the situation in Greece still unstable, investors are moving into Treasuries,” said Kevin Flanagan, chief fixed-income strategist at Morgan Stanley Smith Barney in Purchase, New York. “The economic numbers continue to come in a little bit softer than expected on balance.”

Yields on 10-year notes dropped four basis points, or 0.04 percentage point, to 2.93 percent at 5:00 p.m. in New York, according to Bloomberg Bond Trader prices. The price of the 3.125 percent security due in May 2021 rose 11/32, or $3.44 per $1,000 face amount, to 101 21/32.

The 10-year yields fell earlier to 2.88 percent, the lowest level since Dec. 1. Two-year yields were little changed at 0.38 percent after touching 0.34 percent, the lowest level since Nov. 5. The record low of 0.3118 percent was set Nov. 4. Five-year yields slid two basis points to 1.53 percent after dropping 14 basis points yesterday, the most since June 2010.

Treasury Volatility

Treasury volatility is the highest in two months, according to Bank of America Merrill Lynch’s Move index. The gauge, measuring price swings based on over-the-counter options maturing in two to 30 years, rose to 87.90, the highest level since April 8.

Yields on 10-year notes increased 11 basis points two days ago, the most since Jan. 5, after a government report showed retail sales fell in May less than economists forecast. The gain was erased yesterday on Greece’s debt turmoil.

Government bonds pared gains earlier today as European Union Economic and Monetary Commissioner Olli Rehn said in a Bloomberg Television interview in Brussels that “close contact” with the IMF made him confident of an accord at a weekend crisis meeting to pay out 12 billion euros ($17 billion) in July as long as Greece enacts new budget cuts.

In an e-mailed statement, Caroline Atkinson, a spokeswoman for the IMF in Washington, said “progress is being made in the discussions to ensure the full financing of the program, and we anticipate a positive outcome on this at the next Eurogroup meeting.”

Greek Politics

Prime Minister Papandreou didn’t give any details of the government change he announced yesterday after his bid to form a unity government with the leading opposition party failed. Police used tear gas to break up protests in Athens yesterday.

“We must rise to the occasion and realize how dramatic the situation is and work with a united spirit to face the crisis,” Papandreou told lawmakers in the capital today.

The yield on Greece’s two-year notes climbed to more than 30 percent today, and the Stoxx Europe 600 Index of shares fell 0.5 percent. The Standard & Poor’s 500 Index fluctuated, ending the day 0.2 percent higher.

The spread between two-year Treasury yields and interest-rate swaps of similar maturity jumped to as much as 29.8 basis points, the highest level since Dec. 1, on speculation the European debt crisis will drive up interbank lending rates. The swaps exchange a fixed rate for a three-month London interbank offered rate, or Libor.

‘Pendulum of Fear’

“Everybody knows that there has to be some sort of restructuring,” said William Larkin, a fixed-income money manager in Salem, Massachusetts, at Cabot Money Management, which oversees $500 million. “The pendulum of fear, uncertainty and doubt is rising. It’s feeding on itself.”

Treasuries were supported as the Federal Reserve Bank of Philadelphia’s general economic index dropped to minus 7.7 in June from 3.9 a month earlier. Readings greater than zero signal expansion of manufacturing in eastern Pennsylvania, southern New Jersey and Delaware. The median forecast of 54 economists surveyed by Bloomberg News was for a gain to 7.

Investors have reduced bets on an increase in the Fed’s target rate for overnight lending. Futures indicating the likelihood of higher borrowing costs by March dropped to 21 percent today from 33 percent a month ago. The fed funds target has been held at zero to 0.25 percent since December 2008.

The Fed purchased $4.9 billion of Treasuries maturing from July 2015 to November 2016 today as part of its $600 billion second round of quantitative easing expiring this month.

Other economic reports showed a drop in applications for unemployment insurance and a bigger gain in housing starts than economists projected.

“These numbers look a touch stronger than expected, but I don’t think the market’s going to get too excited,” said Suvrat Prakash, an interest-rate strategist in New York at BNP Paribas SA, one of the 20 primary dealers that trade with the Fed.

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