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Treasury 30-Year Yields Drop Most in 7 Weeks on Europe Concern

Treasuries climbed, pushing the 30-year bond yield down the most in seven weeks, as investors sought refuge on concern Europe’s fiscal turmoil will undermine the global economic recovery.

U.S. government securities increased after the European Central Bank said its balance sheet soared to a record following last week’s lending to keep credit flowing during the region’s debt crisis. They also rose before Italy sells as much as 8.5 billion euros ($11.1 billion) of notes tomorrow due from 2014 to 2022. Stocks dropped and the euro weakened to the lowest level against the dollar in almost a year.

“There’s a certain amount of risk-off that’s going to stay in the market as Europe goes through its gyrations,” said Kevin Giddis, president of fixed-income capital markets at the brokerage firm Morgan Keegan Inc. in Memphis, Tennessee. “Treasuries is the best outlet for the risk-off trade. There are a lot of geopolitical issues out there.”

Yields on 30-year bonds tumbled 11 basis points, or 0.11 percentage point, to 2.92 percent at 5:01 p.m. New York time, according to Bloomberg Bond Trader prices. It fell as much as 14 basis points, the biggest intraday drop since Nov. 9, to 2.90 percent. Yields rose earlier today to 3.04 percent. The price of the 3.125 percent debt maturing in November 2041 climbed 2 7/32, or $22.19 per $1,000 face amount, to 104 2/32.

Ten-year note yields dropped nine basis points to 1.92 percent, while two-year note yields fell two basis points to 0.27 percent.

The Standard & Poor’s 500 Index retreated 1.3 percent, halting a five-day gain after the ECB said its balance sheet climbed. The euro touched $1.2912, the weakest since Jan. 11.

Yield Curve

The gap between yields on two- and 30-year Treasuries, known as the yield curve, shrank to 265 basis points, the least since Dec. 19. The difference between yields on conventional 10-year U.S. notes and inflation-linked Treasuries, a gauge of the inflation outlook for the period known as the break-even rate, decreased to 1.99 percentage points, its first time below 2 percent on a closing basis since Dec. 19.

A $30 billion auction of four-week Treasury bills that drew a rate of zero attracted the fourth-highest level of demand on record. The bid-to-cover ratio, which gauges demand by comparing the number of bids with the amount of securities sold, was 6.68, versus a five-year average of 3.81. The record high was 9.07 on Dec. 20.

Treasuries Returns

Treasuries were headed for their best annual return since the depths of the financial crisis in 2008. They have gained 9 percent in 2011, according to Bank of America Merrill Lynch indexes. U.S. debt securities rallied in 2011 even after S&P stripped the U.S. of its AAA credit rating on Aug. 5.

The ECB said its balance sheet climbed 239 billion euros to 2.73 trillion euros. Lending to euro-area banks jumped 214 billion euros to 879 billion euros in the week ended Dec. 23, the Frankfurt-based central bank said in a statement today.

“The real key for Europe will be implementation of austerity, and short of that we’ll have the same problems,” said Giddis of Morgan Keegan. “That will keep a certain amount of assets in risk-off. It will keep investors in dollar-denominated assets.”

Treasuries briefly erased gains after Italy auctioned 9 billion euros of six-month bills at about half the rate they fetched at a sale last month. The 179-day bills drew a rate of 3.251 percent, down from a 14-year-high of 6.504 percent at the last auction of similar-maturity securities on Nov. 25. Investors bid for 1.7 times the amount offered, up from 1.5 times last month.

The nation also sold 1.7 billion euros of zero-coupon notes due in 2013, short of the maximum target, at 4.853 percent, down from 7.814 percent on Nov. 25.

‘Defensive Positions’

A bigger test comes tomorrow with Italy’s sale of longer-maturity debt.

“People may be taking defensive positions in anticipation” of the Italian bond supply tomorrow, said Chris Ahrens, head interest-rate strategist at USB AG’s UBS Securities unit in Stamford, Connecticut, one of the 21 primary dealers that trade with the Federal Reserve. “They carry greater capital risk, so people would look at that defensively. It’s better to be safe than not.”

The Fed sold $8.63 billion of Treasuries today due from May 2014 to November 2014 as part of a program to lower borrowing costs by replacing $400 billion of shorter-maturity Treasuries in its holdings with longer-term debt.

Treasury market volumes have slid amid the Christmas and New Year’s holiday season. About $108 billion of Treasuries changed hands today through ICAP Plc, the world’s largest interdealer broker, and about $90 billion changed hands on Dec. 23. The 2011 daily average is $287 billion.

“It’s a thin market,” said David Coard, head of fixed-income trading in New York at Williams Capital Group, a brokerage for institutional investors. “We could see a lot of volatility because there are not a lot of folks around and it’s easy to move around the market.”

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