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U.S. 10-Year Yields Touch 3-Week High Before Sale, Fed

Treasuries fell, pushing 10-year note yields to a three-week high as the U.S. prepares to sell $21 billion of the debt and the Federal Reserve begins a two-day meeting amid bets it will add monetary stimulus.

Thirty-year bond yields rose for a second day as a gauge of inflation expectations in the U.S. reached the highest level since March. Germany’s top constitutional court backed the ratification of Europe’s permanent bailout fund, damping demand for the safest assets. The U.S. 10-year note sale is the second of three note and bond auctions this week totaling $66 billion.

“You’re getting concessions for the auctions and a risk-on flavor out of Europe,” said Sean Murphy, a trader at Societe Generale SA in New York, one of the 21 primary dealers that are obligated to bid in U.S. debt sales. “It pressures Treasuries, and now you have to take down supply ahead of expectations of further stimulus from the Fed.”

The benchmark 10-year yield climbed four basis points, or 0.04 percentage point, to 1.74 percent at 11:48 a.m. in New York, according to Bloomberg Bond Trader prices. It touched 1.76 percent, the highest level since Aug. 22. The price of the 1.625 percent note due in August 2022 dropped 3/8, or $3.75 per $1,000 face amount, to 98 30/32.

The 30-year yield advanced five basis points to 2.91 percent after climbing five basis points yesterday.

Inflation Bets

The difference between yields on 10-year notes and similar-maturity Treasury Inflation Protected Securities, a gauge of traders’ outlook for consumer prices, reached 2.41 percentage points, the widest since March 21. The average over the past decade is 2.16 percentage points.

Investors in U.S. government securities have earned 2 percent in 2012 as of yesterday, according to Bank of America Merrill Lynch indexes. The Standard & Poor’s 500 Index has gained 16 percent, including reinvested dividends.

There’s a “high probability” the Fed will say tomorrow it’s extending its zero-interest-rate policy into 2015, according to Pacific Investment Management Co.’s Mohamed El-Erian. Policy makers have kept their benchmark rate at zero to 0.25 percent since 2008. A third round of bond purchases under quantitative easing is possible, he said.

“We suspect that the most likely outcome will be a change in the forward guidance language to go well into 2015,” El-Erian, the chief executive officer of the world’s largest manager of bond funds, said in a “Bloomberg Surveillance” radio interview with Tom Keene and Ken Prewitt. A “high possibility is you may get QE3, either now or by December.”

The Fed is unlikely to cut the interest rate it pays banks on reserves, intended to spur lending, or to target growth in gross domestic product, El-Erian said.

Bloomberg Survey

Almost two-thirds of economists in a Bloomberg survey projected the central bank will announce a third round of quantitative-easing tomorrow, while also extending into 2015 its pledge to keep interest rates at virtually zero.

Policy makers will probably announce an open-ended plan tied to a sustained improvement in the economy rather than specify an amount of purchases and an end-date, according to 32 of the 73 economists in the survey. Twenty-two expect a fixed duration and amount.

Two rounds of Fed bond purchases totaling $2.3 trillion have failed to breathe life into the labor market, which Chairman Ben S. Bernanke said last month is a “grave concern.” Unemployment has been stuck above 8 percent for 43 straight months, while the U.S. economy grew less than 2 percent in the second quarter.

Fed Sale

The central bank is also in the process of swapping shorter-term Treasuries in its holdings with those due in six to 30 years to put downward pressure on long-term borrowing costs. It sold $7.8 billion of securities today maturing from April 2014 to November 2014 as part of the program.

The 10-year notes the Treasury is auctioning today yielded 1.75 percent in pre-sale trading, compared with 1.68 percent at the last auction, on Aug. 8. The record offering low of 1.459 percent was set in July. Investors bid for 2.49 times the amount of the securities sold last month, the least in three years.

Indirect bidders, a class of investors that includes foreign central banks, bought 40.6 percent of the notes at the August offering, compared with an average of 42 percent for the past 10 auctions.

A sale yesterday of $32 billion in three-year notes drew bids for 3.94 times the securities available, the most on record. The Treasury will auction $13 billion of 30-year bonds tomorrow.

German Court

German 10-year bund yields touched 1.65 percent today, the highest level since June 29, as demand for refuge faded.

“Treasuries are being dragged lower with bunds after the court verdict as safe assets are suffering across the board,” said Michael Leister, a fixed-income strategist at Commerzbank AG in London.

The German Federal Constitutional Court stipulated that a cap of about 190 billion euros ($246 billion) be placed on the country’s liabilities before the European Stability Mechanism is ratified, unless parliament decides to back extra funds.

The court dismissed motions filed by groups seeking to block the fund, ending legal challenges that delayed efforts by euro-area leaders to contain the debt crisis.

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