us interest rate rise rumours

TREASURIES-Rate fears beat back bonds
Mon Jun 8, 2009 3:49pm EDT


* Prices down on follow-through selling after payrolls

* Short-term Treasuries underperform on rate-hike fears

* Many seek exit from curve-steepening trades

* Fed bought $7.5 billion Treasuries maturing 2014 to 2016

* Supply ahead with 3-, 10-, 30-year auctions this week (Adds late markets action, recasts, adds quote, changes byline)

By Burton Frierson

NEW YORK, June 8 (Reuters) - U.S. Treasuries prices fell on Monday, sending yields to seven-month highs, as fears that the U.S. Federal Reserve will raise interest rates sooner than expected swept through the bond market.

The losses were an aftershock of Friday's selling, which followed a monthly labor market report showing much less weakness than expected in May.

The dramatic slowing in the rate of job losses convinced many that the economy was set to rebound in the second half of the year from the worst recession in decades and that the Fed will have to depart from its near-zero interest rate policy.

"It's just the follow-through from Friday's trade," said Thomas di Galoma, head of fixed income rates trading at Guggenheim Capital Markets LLC in New York.

"The focus now is on the Fed actually tightening rates sort of into the fall. Reality on the Fed is just changing. There was a feeling that the Fed would be able to leave rates at pretty much zero through 2009 and probably well into 2010."

The two-year note , sensitive to potential changes in interest-rate policy, fell 7/32 in price, pushing yields up to 1.42 percent from 1.30 percent late Friday and from 0.96 percent late on Thursday.

The rise in two-year yields took them to their highest since early November.

Benchmark 10-year notes fell 16/32, pushing yields up to 3.90 percent from 3.84 percent at Friday's close. Ten-year yields rose as high as 3.91 percent, also their highest since early November.

Friday's nonfarm payrolls report showed 345,000 jobs were cut in May, the fewest since September and far less than the 520,000 consensus forecast. March and April's job losses were also revised lower to show smaller declines. For more see [ID:nN05274048].

The report put the prospect of Fed interest rate increases in play by year-end.

U.S. short-term interest rate futures, which track market expectations for Fed rate policy, saw their first meaningful move in months on Friday.

They are now fully pricing in an increase in the overnight federal funds rate to 0.5 percent in December, and possibly more.

The Fed -- the U.S. central bank -- lowered the funds rate to a range of zero to 0.25 percent in December as it tried to halt the worst financial crisis since the Great Depression of the 1930s.

The advent of zero-rate policy in the United States convinced many Wall Street economists that the Fed would not raise interest rates until 2010 or even afterward.

Suddenly facing the mere possibility of a rise in 2009 has shaken the bond market, particularly shorter maturities.

"The front end is still crowded. People still believe that the Fed is closer to reversing its monetary easing policy," said John Spinello, chief fixed-income technical strategist at Jefferies & Co in New York.

The difference between yields on 2- and 10-year notes narrowed to 249 basis points after widening to record levels around 281 basis points on Friday.

With the government selling huge amounts of bonds to finance its economic recovery and financial rescue efforts, the latest move up in yields reinforced a trend that has been in place since the start of the year that has seen bond yields rise and prices plunge.

The Treasury will sell $65 billion in coupon securities this week, starting with $35 billion in three-year notes on Tuesday, followed by $19 billion in 10-year notes on Wednesday and $11 billion in 30-year bonds on Thursday. (Additional Reporting by Ellen Freilich; Editing by James Dalgleish)

http://www.reuters.com/article/bondsNews/idUSN0838230020090608?sp=true