Treasury 2- to 30-Year Yield Curve Widens to Record on Inflation Prospects

The difference between 2- and 30- year Treasury yields widened to a record as investors demanded higher compensation when buying longer-term securities on concern a strengthening U.S. economy will spur inflation.

The so-called yield curve steepened to 3.96 percentage points yesterday, compared with an average of 2.07 percentage points the past 10 years. Treasuries fell yesterday as reports showed retail sales and industrial production both rose in December. The Federal Reserve will buy up to $21.5 billion in Treasuries next week, including inflation-indexed securities.

“Rates are headed generally higher from here as we see a slow recovery, trending higher,” said Jay Mueller, who manages about $3 billion of bonds at Wells Fargo Capital Management in Milwaukee.

The yield on the 30-year bond rose five basis points, or 0.05 percentage point, to 4.53 percent, from 4.485 percent on Jan. 7, according to BGCantor Market Data. The price of the 4.25 percent security due in November 2040 dropped 1/2, or $5 per $1,000 face amount, to 95 19/32.

Two-year note yields fell three basis points to 0.57 percent. The gap between the two securities is the highest since Bloomberg records on the data began in 1977.

Prospects for faster economic growth caused Treasuries to lose 2.67 percent last quarter, including reinvested interest, trimming the annual gain to 5.88 percent for 2010, Bank of America Merrill Lynch’s U.S. Treasury Master index shows.

Improved Outlook

Fed Chairman Ben S. Bernanke said the increase in market interest rates in recent months reflects an improved outlook for the U.S. economy. He spoke Jan. 13 at a forum in Alexandria, Virginia.

The U.S. consumer-price index rose 0.5 percent in December from the previous month, more than the 0.4 percent median forecast in a Bloomberg News survey, data from the Labor Department showed yesterday. The so-called core rate, which excludes volatile food and fuel costs, rose 0.1 percent, in line with the median projection.

The U.S. producer price index rose 1.1 percent in December, the most in 11 months, according to a Labor Department report on Jan. 13.
Traders’ expectations for price increases rose almost to an eight-month high on speculation the Fed’s plan to add $600 billion to the economy will facilitate faster growth, Treasury Inflation Protected Securities showed.

Break-Even Rate
The difference between yields on U.S. 10-year notes and comparable TIPS, a gauge of traders’ outlook for consumer prices over the life of the securities, touched 2.41 percent on Jan. 12. The figure, known as the break-even rate, reached 2.42 percentage points on Jan. 5, the most since April 30. It was 1.47 percent in August.

U.S. retail sales increased in December less than forecast, to 0.6 percent, Commerce Department figures showed yesterday in Washington, while the Thomson Reuters/University of Michigan preliminary January index of consumer sentiment unexpectedly decreased.

The Fed will purchase Treasuries every business day next week, from Jan. 18 through Jan. 21, as part of its bond-buying plan. It bought $86.5 billion in Treasuries this week, according to a statement on its website.
Treasuries rose Jan. 13 after the central bank acquired $8.4 billion of them due from July 2016 to December 2017. The purchase accounted for 40.1 percent of the $21 billion offered by holders that day, compared with an average accepted-to- submitted ratio of 30.6 percent at the previous 10 purchases.

Treasury Auctions
The U.S. sold $66 billion in 3-, 10- and 30-year securities on three consecutive days, ending Jan. 13 with the auction of long bonds.
Indirect bidders, a class of investors that includes foreign central banks, bought 37.8 percent of the 30-year bonds, compared with 49.5 percent in December, which was the most since July 2009. The average for the past 10 sales is 36.9 percent.

At the $21 billion offering of 10-year notes on Jan. 12, the bid-to-cover ratio, which gauges demand by comparing total bids with the amount of securities offered, was 3.30, the highest since April. Indirect bidders bought 53.6 percent of the notes, compared with 44.4 percent at the sale in December.
A $32 billion auction of three-year debt on Jan. 11 drew a yield of 1.027 percent, the highest since July.
The Treasury said it will auction $13 billion of 10-year TIPS on Jan. 20, $3 billion more than at the last sale of the maturity on Nov. 4.

To contact the reporters on this story: Susanne Walker in New York at swalker33@bloomberg.net; Cordell Eddings in New York at ceddings@bloomberg.net