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Treasury Yield Curve Widens as Economic Reports Back Fed Taper

The difference in yields on Treasury five-year and 10-year securities reached the widest in almost two years as a narrowing U.S. trade deficit added to signs the economy is recovering as the Federal Reserve considers reducing its bond-buying plans.

Benchmark 10-year notes pared losses as the U.S. sold $32 billion in three-year securities at a yield of 0.631 percent, compared with a forecast of 0.636 percent in a Bloomberg News survey of eight of the Fed’s 21 primary dealers. Fed Bank of Chicago President Charles Evans indicated that a tapering of the central bank’s bond-buying program in September is possible.

“There’s a steepening of the curve,” said Justin Lederer, an interest-rate strategist at Cantor Fitzgerald LP in New York, a primary dealer. “We’re looking at data and we’re seeing what the Fed does. We’ll see if the September tapering is in place or if it gets pushed backed.”

The benchmark 10-year yield climbed one basis point, or 0.01 percentage point, to 2.64 percent at 4:59 p.m. in New York, according to Bloomberg Bond Trader prices. The 1.75 percent note maturing in May 2023 dropped 2/32, or 63 cents per $1,000 face amount, to 92 11/32.

The yield on the current three-year note was little changed at 0.6 percent.

Yield Curve

The difference between yields on five-year notes and 10-year Treasuries reached 1.26 percentage points today, touching the widest since September 2011. Historically, a steeper so-called yield curve reflects investors anticipating faster economic growth.

Treasury trading volume at ICAP Plc, the largest inter-dealer broker of U.S. government debt, was $248 billion, down from the average of $316 billion this year.

Volatility in Treasuries as measured by the Merrill Lynch Option Volatility Estimate MOVE Index was 78.18. The figure has fallen from 117.89 on July 5, which the highest level since December 2010.

Investors in U.S. government securities have lost 2.8 percent this year, according to the Bloomberg U.S. Treasury Bond Index. U.S. debt gained 2 percent in 2012.

The securities have lost 3.3 percent in the past three months, according to the index. Fed Chairman Ben S. Bernanke told Congress May 22 that the Fed may cut the pace of bond purchases if policy makers see indications of sustained growth. Ten-year yields have climbed from 2.04 percent on that day.

Fed View

The Fed’s Evans, speaking to reporters today, said the central bank probably will have bought at least $1.2 trillion of bonds from January 2013 until the time he sees the current quantitative-easing program ending in mid-2014.

“We’ve seen good improvement in the labor market, there’s no question in my mind about that,” Evans said in Chicago. “I’m still wanting to see greater evidence that it’s a sustainable improvement” and “I would clearly not rule” out a decision to begin dialing back the purchases in September.

A report Aug. 2 showed the U.S. added 162,000 jobs in July and the unemployment rate dropped to 7.4 percent, the lowest since December 2008.

The Fed is buying $45 billion of Treasuries and $40 billion of mortgage debt each month to put downward pressure on interest rates.

Jobs Data

“We think they will still go, but the August jobs report is going to be crucial,” said Dan Greenhaus, chief global strategist in New York at broker-dealer BTIG LLC, referring to speculation on Fed cut-backs on its stimulus program this year.

The central bank’s large-scale asset purchases have swelled its balance sheet to more than $3.5 trillion.

Treasury yields rose earlier as a report showed a narrowing deficit. The U.S. trade deficit shrank 22.4 percent to $34.2 billion from a revised $44.1 billion in May that was smaller than previously estimated, the Commerce Department reported today in Washington.

The median forecast in a Bloomberg survey of 72 economists called for a $43.5 billion deficit. Exports increased to an all-time high while imports fell to a three-month low.

At today’s auction of three-year notes, indirect bidders, an investor class that includes foreign central banks, purchased 41.4 percent of the notes, the highest level since August 2011 and compared with an average of 26.1 percent for the past 10 sales.

Auction Detail

Direct bidders, non-primary-dealer investors that place their bids directly with the Treasury, purchased 14 percent of the notes at the sale, compared with an average of 19.9 percent for the past 10 auctions.

Today’s offering is the first of three note auctions this week totaling $72 billion. The government will sell $24 billion in 10-year debt tomorrow and $16 billion in 30-year securities on Aug. 8.

The sales will raise $2.4 billion of new cash, as maturing securities held by the public total $69.6 billion, according to the U.S. Treasury.

Investors bid $2.92 for each dollar of the $1.289 trillion in U.S. government notes and bonds sold at auction this year, according to Treasury data compiled by Bloomberg. That’s down from the record $3.15 for the $2.153 trillion sold at last year’s offerings.

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