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Treasuries Rise as Concern Over Housing, Credit Increases
By Sandra Hernandez and Deborah Finestone
Oct. 19 (Bloomberg) -- Treasuries rallied and two-year notes headed for their biggest weekly increase in more than five years as credit losses stoked speculation that the Federal Reserve will cut interest rates again this year.
Bonds gained for a fifth day and stocks fell on concern a housing slump and losses from securities linked to subprime loans will deepen. Home foreclosures led three of the biggest U.S. banks to report declines in third-quarter profit, while two structured investment vehicles, or SIVs, said they won't be able to repay all of their debt.
``The fear is back,'' said Thomas Roth, head of U.S. government bond trading in New York at Dresdner Kleinwort, one of the 21 primary securities dealers that trade directly with the Fed. ``Where there's smoke there's fire, and people are just running back into Treasuries.''
The yield on the two-year note fell more than 9 basis points, or 0.09 percentage point, to 3.82 percent at 11:48 a.m. in New York, according to bond broker Cantor Fitzgerald LP. The price of the 4 percent security due in September 2009 rose 5/32, or $1.56 per $1,000 face amount, to 100 10/32. Yields move inversely to bond prices.
Demand for Treasuries also increased as U.S. stocks fell the most in a month. The Standard & Poor's 500 Index and the Dow Jones Industrial Average declined as crude oil surpassed $90 a barrel for the first time.
Two-year note yields have fallen 37 basis points this week. The last time they had a bigger drop was in the week ended Jan. 11, 2002, when they declined 42.9 basis points after then Fed chairman Alan Greenspan said ``significant risks'' to an economic rebound remained.
Fed Rate Outlook
Futures traded on the Chicago Board of Trade suggested a 92 percent chance that the Fed will reduce the target rate for overnight lending between banks a quarter-percentage point to 4.5 percent on Oct. 31, compared with 70 percent odds yesterday and a 32 percent likelihood a week ago.
Fed Chairman Ben S. Bernanke said today at a conference on monetary policy in St. Louis that assessing the U.S. economy is a ``formidable challenge.'' He didn't comment on interest rates or the outlook for growth.
The yield on 10-year notes fell 9 basis points to 4.41 percent. They yielded 58 basis points more than the two-year note, compared with 45 basis points on Oct. 12. The difference, or spread, in yields had its biggest weekly increase since policy makers cut the target rate a half-percentage point to 4.75 percent at their meeting Sept. 18.
Steepening Curve
The steepening of the yield curve ``is consistent with this flight-to-quality credit concern,'' said Carl Lantz, an interest-rate strategist in New York at primary dealer Credit Suisse Group. ``In a flight to quality, people gravitate to the front end'' as they seek the most liquid securities. ``It's more pronounced in bills,'' he added.
The yield on three-month Treasury bills has fallen 31 basis points so far this week. That's the most since Aug. 17, when the Fed cut the discount rate that it charges banks for loans.
In a sign of increased credit risk, the difference between three-month bill yields and the London interbank offered rate, or Libor, had its biggest weekly gain in nine weeks. The spread has widened 24 basis points to 127 so far this week.
Bank of America Corp., the second-largest U.S. bank, yesterday said earnings fell 32 percent, while Citigroup Inc., the biggest, on Oct. 15 reported a 57 percent decline in profit. Wachovia Corp. today said net income fell 10 percent after writedowns for mortgage-backed securities and loans for leveraged buyouts.
`Everybody Exposed'
``Everybody is exposed,'' said Jerry Webman, head of fixed- income in New York at OppenheimerFunds Inc., which manages about $220 billion. ``The events in August added up to a tightening, with investors' refusal to buy commercial paper and volatility in short-term rates.''
Rhinebridge Plc, the SIV run by Dusseldorf, Germany-based IKB Deutsche Industriebank AG, said yesterday it's unlikely to repay all its debt, a day after receivers said a fund run by London hedge fund Cheyne Capital Management Ltd. will stop paying creditors.
SIVs, which borrow in the commercial paper market to fund purchases of asset-backed securities, have been forced to sell about $75 billion of assets as investors retreated from all but the safest debt.
Greenspan said a fund set up by Citigroup, JPMorgan Chase & Co. and Bank of America with the encouragement of U.S. Treasury Secretary Henry Paulson to help SIVs avoid a fire sale of $320 billion of assets may harm investor sentiment, the Emerging Markets newspaper reported on its Web site today.
The two-year note's yield will be 4.03 percent by year-end, according to a Bloomberg News survey of 72 economists, with the most recent forecasts given the heaviest weightings.
To contact the reporters on this story: Sandra Hernandez in New York at
[email protected] ; Deborah Finestone in New York at
[email protected] .
Last Updated: October 19, 2007 11:49 EDT