Treasuries Drop as Rise in Factory Orders Hits Haven Bets

Treasuries declined as a government report showed orders placed with U.S. factories rose in May for the first time in three months, reducing concern the economic recovery is faltering.

Benchmark 10-year notes pared gains posted yesterday after another report showed manufacturing expectedly contracted. The securities have traded in a yield range of 1.57 percent to 1.67 percent for 19 of the past 20 trading sessions, according to Royal Bank of Scotland Group Plc. A U.S. government report this week is forecast to show employers added fewer than 100,000 workers for a third month in June.

“With the risk-on trade, we could see some pressure,” said Justin Lederer, an interest-rate strategist in New York at Cantor Fitzgerald LP, one of 21 primary dealers that trade with the Federal Reserve. “It’s a range-bound session ahead of tomorrow’s holiday and with the European Central Bank and payrolls later in the week.”

The 10-year yield rose four basis points, or 0.04 percentage point, to 1.63 percent at 2 p.m. in New York, according to Bloomberg Bond Trader prices. The 1.75 percent note due in May 2022 declined 3/8, or 94 cents per $1,000 face amount, to 101 3/32. The yield fell six basis points yesterday. It dropped to a record 1.4387 percent on June 1.

Trading of Treasuries closed at 2 p.m. and will stay shut worldwide tomorrow in observance of the Fourth of July holiday in the U.S., according to the Securities Industry and Financial Markets Association.

Term Premium

Treasuries yields are at levels making them near the most overpriced ever, according to a model created by Federal Reserve economists know as the term premium. The gauge was negative 0.89 today after falling to a record negative 0.94 on June 1. A negative reading indicates investors are willing to accept yields below what is considered fair value.

Orders placed with U.S. factories rose in May for the first time in three months, easing concern that manufacturing is faltering.

The 0.7 percent increase in factory orders followed a revised 0.7 percent drop in the prior month, the Commerce Department said today in Washington. The median forecast of economists in a Bloomberg News survey called for a rise to 0.1 percent.

Treasuries declined as speculation the ECB will cut borrowing costs this week to stimulate growth reduced demand for the relative safety of U.S. government securities. ECB officials will lower their main interest rate by a quarter percentage point to a record 0.75 percent on July 5, a Bloomberg News survey of economists shows.

Risk-On ‘Catalyst’

European Union leaders, who announced plans last week to stem the debt crisis by amending bailout rules and moving toward a banking union, are now looking to the central bank to help.

“The ECB cutting would be a little bit of a catalyst for a risk-on” trade, said Ira Jersey, an interest-rate strategist at Credit Suisse Group AG in New York, a primary dealer. “You’re probably talking about the 10-year backing up five, six basis points.”

The U.S. added 90,000 workers last month and the jobless rate held at 8.2 percent, separate Bloomberg surveys showed before the Labor Department data due on July 6.

Treasuries gained yesterday after the Institute for Supply Management said its factory index slid to 49.7 for June from 53.5 in May. Readings less than 50 signal contraction.

BofA Forecast

Treasury yields are poised to increase, Bank of America Corp. said in a report.

Ten-year yields will rise to 1.9 percent by year-end, according to the report yesterday by David Woo and John Shin in New York and Sabine Schels in London.

An investor who bought today and sold at the end of 2012 would lose 1.8 percent if the forecast is correct, according to data compiled by Bloomberg.

The Fed will increase its asset purchases at its September meeting as it strives to support the U.S. economy, increasing inflation expectations and sending bond yields higher, according to Bank of America, one of the 21 primary dealers that trade directly with the central bank.

The difference between yields on 10-year notes and similar-maturity Treasury Inflation Protected Securities, a gauge of expectations for consumer prices over the life of the debt, was 2.10 percentage points. The average over the past decade is 2.15 percentage points.

The central bank on June 20 expanded so-called Operation Twist, its program to replace $400 billion of short-term Treasuries in its portfolio with longer-term debt to lengthen the average maturity of its holdings, by $267 billion and extended it until year-end.

‘ECB’s Court’

“The ball’s in the ECB’s court,” said Kevin Flanagan, a Purchase, New York-based fixed-income strategist for Morgan Stanley Smith Barney, citing the Fed’s action. “The expectation at least from Morgan Stanley is you’ll get a rate cut on the fifth.”

Corporate bonds are attractive, said Hans Goetti, Singapore-based chief investment officer for Asia at Finaport Investment Intelligence, which manages the equivalent of $1.47 billion. Goetti said he bought the debt for his clients in late 2011 and early this year and plans to hold the securities.

“The corporate sector is in relatively good shape,” Goetti said. “It is the only bright spot in the economy.”

Treasuries have returned 2.1 percent this year, versus 5.8 percent for corporate bonds and 8.1 percent for the global-bond index, the Bank of America figures show.

The two-year yield may extend declines after yesterday breaking below an uptrend that has been in place since June, according to data compiled by Bloomberg.

The yield rose one basis point to 0.30 percent. Its 100-day moving average is 0.2938 percent. The rate may fall to its 50-day moving average 0.2769 percent, the data show.

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