Treasuries Fall First Time in Four Weeks on Bets Impasse to End

Treasuries dropped for the first time in four weeks on bets lawmakers will end the partial shutdown of the U.S. government in time to reach an accord on extending the federal debt limit, averting lasting damage to the economy.

Yields on benchmark 10-year notes rose from a seven-week low, while trading in the narrowest range since April. The Treasury Department said on Oct. 3 that breaching the debt limit may have catastrophic results that last decades, such as higher interest rates and slower growth. Investors sold bills due closest to the Oct. 17 deadline, pushing one-month rates to the highest level since 2009. Even if the government remains closed, the U.S. will sell $64 billion of notes and bonds next week.

“We’ve been through this before,” said Kevin Flanagan, a Purchase, New York-based fixed-income strategist for Morgan Stanley Smith Barney. “If you get any resolution to these issues, I think it paves the way” for higher yields.

Benchmark 10-year U.S. note yields increased for the first time since the five days ended Sept. 6, adding two basis points, or 0.02 percentage point, to 2.65 percent this week in New York, Bloomberg Bond Trader data show. The price of the 2.5 percent debt due August 2023 declined 5/32, or $1.56 per $1,000 face amount, to 98 3/4.

The yields traded this week between 2.66 percent and 2.58 percent. The bottom of the range, reached on Oct. 3, was the lowest level since Aug. 12.

Rates on bills due Oct. 24 climbed to 0.12 percent, from negative 0.01 percent on Sept. 27, as investors demanded extra compensation for the risk of holding securities maturing closest to the debt-ceiling deadline.

Borrowing Authority

The U.S. will run out of borrowing authority in less than two weeks and will have $30 billion in cash after that. It would be unable to pay all of its bills sometime between Oct. 22 and Oct. 31, according to the Congressional Budget Office.

Financial markets suggest that most investors anticipate U.S. lawmakers will raise the limit on the nation’s debt and avoid a default on government securities, Mohamed El-Erian, chief executive and co-chief investment officer of Pacific Investment Management Co., said yesterday on Bloomberg Television’s “In the Loop” with Betty Liu. Pimco is the world’s biggest manager of bond mutual funds.

“The market expects as we get closer to Oct. 17 some realism will start occurring on Capitol Hill and politicians will avoid what potentially could be quite catastrophic both for the U.S. and the global economy,” El-Erian said from the company’s headquarters in Newport Beach, California.

Divided Republicans

House Republicans are divided between those who insist on confrontation over the nation’s 2010 health-care law, President Barack Obama’s signature legislative achievement, and those who say they would support Senate Democrats’ spending bill. That measure would end the closure without conditions attached.

The last government shutdown lasted 21 days in 1995-1996.

House Speaker John Boehner has been telling fellow Republicans he won’t allow the U.S. to default on its debt, even if that requires Democratic votes, according to two Republican congressional aides. Party leaders are trying to package other Republican priorities with an increase of the $16.7 trillion debt ceiling for a vote as soon as next week.

A default by the U.S. would be unprecedented and has the potential to freeze credit markets and spark a financial crisis “that could echo the events of 2008 or worse,” the Treasury Department said in its report this week.

Treasury one-month bill rates climbed yesterday to 0.19 percent, matching a 45-month high reached in November 2012, while three-month bill rates reached 0.03 percent. The inversion of the spread this week was the biggest since September 2008.

Bill Aversion

“You’re seeing an aversion to the bills on and around the date when the debt ceiling might be breached,” Dan Mulholland, head of Treasury trading at BNY Mellon Capital Markets in New York, said Oct. 3. “A lot of these short Treasury bills are typically held by accounts that use them for collateral. They don’t want to be in a situation where they can’t make good on a collateral payment.”

The U.S. will auction $30 billion of three-year notes on Oct. 8, $21 billion of 10-year debt on Oct. 9 and $13 billion of 30-year bonds on Oct. 10.

Credit-default swaps insuring against losses on U.S. Treasuries almost doubled this week as the deadline for raising the nation’s debt limit approached. The cost of one-year contracts jumped to 62 basis points on Oct. 3, from 33 basis points, according to date provider CMA.

Trade volumes are also climbing, with swaps on Treasuries the 15th most active of 1,000 entities tracked by the Depository Trust & Clearing Corp. in the week through Sept. 27, up from 147th the previous period.

Fed Purchases

The U.S. shutdown may help delay a reduction in the Fed’s purchases of Treasuries and mortgage bonds, according to Citigroup Inc. Policy makers said Sept. 18 they want more proof of an economic recovery before tapering their $85 billion-a-month program. The government postponed the September payrolls report yesterday because nonessential services were closed.

“The Fed has told us they’re on hold for quite some time, and we now are not going to get any economic readings for probably a couple of months that are accurate at least,” Michael Plavnik, head of the short-term interest-rate trading desk at Citigroup in London, said Oct. 1 on Bloomberg TV.

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