Treasury Yields Rise to Almost 3-Month High Before CPI

Treasuries fell, sending 10-year yields toward the highest in almost three months, as signs of improvement in the U.S. economy damped speculation the Federal Reserve will expand monetary stimulus as soon as next month.

Benchmark 10-year notes declined for a third day as a report showed that industrial production in the U.S. increased more than forecast in July. Central bank policy makers said Aug. 1 they would provide more stimulus as needed and would monitor developments “closely.”

“We definitely have seen some better economic numbers and it’s put a dent in QE3 expectations,” said Thomas Roth, senior Treasury trader in New York at Mitsubishi UFJ Securities USA Inc. “The market’s at risk for the first time in a long time.”

Ten-year yields rose eight basis points, or 0.08 percentage point, to 1.82 percent at 5:02 p.m. New York time, after touching the highest since May 16, according to Bloomberg Bond Trader data. The price of the 1.625 percent security due in August 2022 fell 22/32, or $6.88 per $1,000 face amount, to 98 1/4. Thirty-year yields gained as much as nine basis points to

2.92 percent, the highest level since May 17.

Ten-year yields have climbed from the record low of 1.38 percent on July 25 amid signs the economy is picking up. Since then, securities maturing in 10-years or longer have posted a loss of 5 percent, compared with a 1.4 percent decline for all U.S. government debt from then through Aug. 14, according to Bank of America Merrill Lynch indexes.

Global Impact

Yields on Treasuries are rising along with those of sovereign credits around the world.

German 10-year bond yields rose to the highest in more than six weeks after European Economic and Monetary Affairs Commissioner Olli Rehn signaled Spain is weighing a request for a sovereign bailout. German government spokesman Steffen Seibert said Chancellor Angela Merkel will meet with Greek Prime Minister Antonis Samaras next week to discuss Greece’s bailout and all options will be put “onto the table.”

“It’s really not the U.S. that’s driving rates,” said Aaron Kohli, an interest-rate strategist at BNP Paribas SA in New York, one of 21 primary dealers that trade with the central bank. “The reality is it’s Europe.”

U.K. government bonds slid for a third day, pushing yields to the most in more than five-weeks, after jobless claims unexpectedly fell in July, damping demand for the safety of fixed-income assets.

Economic Output

The gap between yields on Treasuries maturing in two and 10 years reached 1.52 percentage points, the most since May 16.

The 10-year term premium, a model created by economists at the Fed that includes expectations for interest rates, growth and inflation, rose to negative 0.73 percent, the highest since May 7. It reached negative 1.02 percent on July 24, the most expensive level on record. A negative reading indicates investors are willing to accept yields below what’s considered fair value.

Industrial production increased 0.6 percent in July following a revised 0.1 percent gain in June that was smaller than previously reported, Fed data showed today in Washington. Economists forecast a 0.5 percent rise, according to the Bloomberg survey median. Manufacturing, which makes up about 75 percent of total production, rose 0.5 percent for a second month.

“It’s a weak number, but I think there are still people who, especially with the retail sales and payrolls data, think QE3 may not be coming in September,” said Justin Lederer, an interest rate strategist at Cantor Fitzgerald LP in New York, a primary dealer. “Even as weak as today is, it doesn’t feel like it’s a major game changer.”

Economic Data

The U.S. added 163,000 jobs last month, a government report showed on Aug. 3, more than the 100,000 projected by analysts. Retail sales rose 0.8 percent, the biggest increase since February, Commerce Department figures showed yesterday.

The Fed, which said this month that housing “remains depressed,” failed to announce further action to boost the economy after an Aug. 1 meeting. While a JPMorgan survey the prior week had found almost 80 percent of mortgage investors forecasted a new round of buying, 6 percent of respondents expected the decision at the meeting.

“Our own view remains that there is a very solid case for additional accommodation under the Fed’s dual mandate of maximum employment and 2 percent inflation,” Jan Hatzius, chief economist at Goldman Sachs Group Inc. in New York, wrote in the report yesterday “While QE3 at the Sept. 12-13 Federal Open Market Committee meeting remains possible, our best estimate is that it will take until late 2012, early 2013 before Fed officials return to balance-sheet expansion.”

Inflation Pace

A separate report showed the cost of living in the U.S. was little changed in July for a second month, showing companies lack pricing power.

The consumer-price index capped a 1.4 percent gain over the past 12 months, the smallest year-to-year increase since November 2010, the Labor Department data showed. The median forecast of 85 economists surveyed by Bloomberg News called for an increase of 0.2 percent. The core index, which excludes volatile food and fuel costs, rose less than forecast.

“When you have a lot of people talking about QE and the type of effect QE will have on inflation, this takes some of the wind out of their sails,” said Scott Sherman, an interest-rate strategist at Credit Suisse Group AG in New York, a primary dealer. “If you’ve got weaker price pressures, it’s easier to support growth under the dual mandate.”

Cost Measure

The difference between 10-year yields on Treasury Inflation-Protected Securities and conventional U.S. government securities narrowed to 2.27 percentage points. It has climbed from as low as 1.98 percentage points on July 26. The spread represents the expected rate of price gains for the life of the debt.

Foreign holdings of Treasuries rose $34.2 billion or 0.7 percent in June to a record $5.29 trillion, Treasury data showed today. Overseas investors held 50.3 percent of the outstanding public debt of the U.S., the most since November.

The Fed sold $7.8 billion of notes due from February 2014 to August 2014 today, according to the website of its New York branch. The sales are part of the central bank’s effort to support the economy by swapping shorter-term Treasuries in its holdings for securities due in six to 30 years to cap long-term borrowing costs, in what has become known as Operation Twist.

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