Treasuries Drop as Fed’s Plosser Says Economic Outlook Positive

Treasuries fell for the first time in four days after Philadelphia Federal Reserve President Charles Plosser said the economy is on “firmer footing” and the central bank’s decision to cut debt purchases was a step in the right direction.

Yields rose earlier after a report showed retail sales gained in December more than forecast. The difference between yields on two- and 10-year debt widened as Plosser said the job market has performed better than expected even after data last week showed the U.S. economy added jobs at the slowest pace since January 2011. One-month bill yields were negative for a second day as Treasury reduces auction sizes.

“Another strong data point adds additional credence to the idea the monthly jobs report was an aberration,” said Dan Greenhaus, chief global strategist in New York at BTIG LLC. “While one number shouldn’t move the discussion in either direction, a strong retail sales report is much better than a weak one.”

Benchmark 10-year yields rose five basis points, or 0.05 percentage point, to 2.87 percent at 4:59 p.m. New York time, Bloomberg Bond Trader data show. The 2.75 percent note due November 2023 dropped 3/8, or $3.75 per $1,000 face amount, to 98 31/32. The yield declined to 2.82 percent yesterday, the lowest since Dec. 11.

Trading Pace

Treasury trading volume at ICAP Plc, the largest inter-dealer broker of U.S. government debt, rose to $288 billion, from $265 billion yesterday. The 2013 average was $308 billion.

Investors in Treasuries were net long in the week ending yesterday, betting the prices of the securities will rise, according to a survey by JPMorgan Chase & Co.

The proportion of net longs was at 2 percentage points in the week ending yesterday, compared with a net short of 2 percentage points in the previous week, according to JPMorgan. The last time investors were net long was on Nov. 25.

The percent of outright longs rose to 19 percent, from 13 percent, the survey reported. The percent of outright shorts, or bets the securities will drop in value, rose to 17 percent, from 15 percent in the week ending Jan. 6, the survey said.

Investors cut neutral bets to 64 percent from 72 percent, resulting in the lowest level since Dec. 2, the survey reported.

Treasuries returned 1 percent this year, according to Bloomberg World Bond Indexes, after losing 3.4 percent last year. U.S. 10-year yields will rise to 3.43 percent by Dec. 31, according to the weighted average estimate of more than 60 forecasters surveyed by Bloomberg.

Bill Rates

One-month bills yielded negative 0.0051 percent.

The U.S. sold $15 billion in four week bills today at a rate of 0.0 percent for the second straight auction of the securities. Treasury cut the four-week bill weekly auction size to $15 billion at today’s sale, from $45 billion on Dec. 3. At the previous auction on Jan. 7, Treasury sold $18 billion of the securities.

The U.S. posted a record December budget surplus as higher payroll taxes, payments from Fannie Mae and Freddie Mac, and a declining unemployment rate helped the government’s finances. Federal revenue exceeded spending by $53.2 billion, compared with a deficit of $1.19 billion a year earlier, the Treasury Department said yesterday in Washington.

“We’ve seen continued cuts in bill supply that has limited the amount of short-term safe securities for investors who need to put money to work, and that has put pressure on bill yields,” said Thomas Simons, a government-debt economist in New York at Jefferies LLC, , one of 21 primary dealers that trade with the Fed. “It wouldn’t surprise me to see low to negative bill rates continue until the supply pressure eases up.”

Fed Policy

Bill rates are anchored as investors expect the Fed’s benchmark to remain in 2014 between zero and 0.25 percent, where they’ve stayed for five years, even as policy makers start reducing monetary stimulus. There’s an 81 percent chance the central bank rate will be unchanged by the December meeting, according to futures contracts data compiled by Bloomberg.

A contraction in the U.S. market for borrowing and lending securities amid rising interest rates and heightened global bank regulation will increase this year, according to Fitch Ratings.

The U.S. tri-party repurchase agreement market contracted $257 billion, or 14 percent, in 2013 to $1.61 trillion as of the end of 2013, according to Fed data, Fitch wrote in a report published today. A 28 percent decline in repos using agency mortgage-backed securities led the fall, while usage of Treasuries as collateral for the transactions also dropped, contracting 10 percent.

Yield Curve

The extra yield investors demand to hold 10-year securities instead of two-year notes widened to 249 basis points, after closing at 247 basis points yesterday. Historically, a steeper yield curve reflects investors anticipating faster economic growth.

Fed policy makers said on Dec. 18 they will cut their stimulus program of monthly bond purchases to $75 billion from $85 billion, citing improvements in the labor market. The central bank purchased $1.39 billion in Treasuries maturing between May 2038 and August 2043. Officials next meet on Jan. 28-29.

Plosser, a voter on the Federal Open Market Committee this year, said in a speech in Philadelphia he would prefer to end debt purchases before late 2014, yet he’s “glad that we have taken the first step.”

The U.S. economy should grow 3 percent in 2014 although that figure is far from “robust,” Plosser said. The growth may push the unemployment rate down to 6.2 percent by December, compared with the 6.7 percent rate last month, he said.

Bank Views

Fed Dallas President Richard Fisher said in the text of a speech he was “pleased” with the Fed’s decision to taper and “would have preferred” cutbacks by $20 billion per month, an increase compared with the current $10 billion planned monthly reductions.

Retail sales increased 0.2 percent last month after a 0.4 percent advance in November that was smaller than previously reported, Commerce Department figures showed in Washington. The median forecast of 86 economists surveyed by Bloomberg called for a 0.1 percent gain.

“People were surprised by the outsized gain in the current month, but there were downward revisions to the previous month,” said Tom Porcelli, chief U.S. economist in New York at Royal Bank of Canada’s RBC Capital Markets unit, a primary dealer.

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