Treasuries Fall as U.S. Readies Sale, Risk Appetite Gains

Treasury 10-year yields rose from almost the lowest level in three weeks as the U.S. prepared to sell $35 billion in five-year notes and optimism increased that European leaders are tackling their debt crisis.

U.S. government securities fell for the first time in three days after German Chancellor Angela Merkel said the euro area has the right tools to stabilize the 17-nation currency. Treasuries gained for the past two days amid speculation Federal Reserve Chairman Ben S. Bernanke will signal in a speech Aug. 31 a third round of bond purchases under quantitative easing.

“Merkel’s comments were favorable for risk assets, and we have a lot of supply today and tomorrow, which is taking some of the steam out of the Treasury market,” said Brian Edmonds, head of interest rates in New York at Cantor Fitzgerald LP, one of 21 primary dealers obligated to bid in U.S. debt auctions.

The 10-year yield increased three basis points, or 0.03 percentage point, to 1.67 percent at 11:52 a.m. in New York, according to Bloomberg Bond Trader prices. It fell earlier to 1.62 percent, after touching 1.61 percent yesterday, the lowest level since Aug. 8. The price of the 1.625 percent security maturing in August 2022 dropped 10/32, or $3.13 per $1,000 face amount, to 99 19/32.

Thirty-year yields rose four basis points to 2.78 percent.

Treasuries are almost the most expensive in three weeks, according to the term premium, a model created by economists at the Fed that includes expectations for interest rates, growth and inflation. The gauge was at negative 0.86 percent today after reaching negative 0.88 percent yesterday, the costliest level since Aug. 6.

A negative reading indicates investors are willing to accept yields below what’s considered fair value. The average over the past decade is positive 0.46 percent.

Note Auction

The five-year notes scheduled for sale today yielded 0.71 percent in pre-auction trading, compared with a record 0.584 percent at the last sale of the debt on July 25. That offering had a bid-to-cover ratio, which gauges demand by comparing total bids with the amount of securities offered, of 2.71 times the amount of debt offered, up from 2.61 at the sale in June.

“We’re not looking for an outstanding auction,” said Tom Tucci, managing director and head of Treasury trading in New York at CIBC World Markets Corp. “With the uncertainty surrounding what Bernanke will or will not say, there will have to be a concession in the market from these levels.”

The U.S. is selling $99 billion of notes this week. The Treasury will auction $29 billion of seven-year securities tomorrow. It sold $35 billion of two-year notes yesterday at a yield of 0.273 percent and a higher than average bid-to-cover ratio of 3.94, versus an average of 3.75 at the past 10 sales.

Fed Speculation

Treasuries rose this week on bets the Fed, which next meets Sept. 12-13, is planning to announce new bond purchases to stimulate economic growth. It bought $2.3 trillion of assets in two rounds of quantitative easing from 2008 to 2011. Bernanke is scheduled to speak this week at the Kansas City Fed’s annual economics conference in Jackson Hole, Wyoming.

Minutes of the Fed’s July 31-Aug. 1 meeting released last week showed many policy makers said additional stimulus probably will be needed soon unless the economy shows signs of a sustainable pickup.

The central bank will issue its Beige Book regional survey of economic conditions today.

The Fed is also swapping shorter-term Treasuries in its holdings with those due in six to 30 years to put downward pressure on long-term interest rates. It’s bought $4.75 billion of Treasuries today due from August 2018 to August 2020. The purchase is part of an effort called Operation Twist, after a similar program in the 1960s.

Merkel Comments

Treasuries declined as demand for refuge eased after Merkel said she’s convinced that reforms by Italy will help reduce the interest rates the nation pays for its bonds. She spoke in a joint press conference in Berlin with Italian Prime Minister Mario Monti.

Italian 10-year yields fell to 5.77 percent today, after touching 6.7 percent on July 25.

Efforts to stamp out the euro bloc’s debt crisis, now in its third year, have intensified as Europe’s political summer break recedes.

U.S. government bonds extended losses after data from the National Association of Realtors showed pending home sales in the U.S. climbed 2.4 percent in July, more than double the forecast in a Bloomberg News survey, after falling 1.4 percent in June.

The American economy expanded at a 1.7 percent annualized pace in the second quarter, Commerce Department data showed today, more than the government’s initial 1.5 percent estimate a month ago. Gross domestic product grew 2 percent in the first quarter.

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