BLBG: Treasury 10-Year Notes Gain for Week as Credit Turmoil Spreads
By Sandra Hernandez and Cordell Eddings
Oct. 24 (Bloomberg) -- Treasury 10-year notes posted the biggest five-day gain in three weeks as widening financial turmoil sparked a tumble in stocks worldwide and a flight out of emerging-market assets.
Yields on 30-year bonds touched the lowest in more than three decades today amid speculation a deepening global slowdown will drive U.S. policy makers to cut borrowing costs. More than $10 trillion has been erased from the market value of equities so far this month, accounting for about one-third of the total value lost this year. Currencies fell from Brazil to India as investors retreated from higher-yielding assets.
``We're getting very close to the emotional blow-off where everybody says, `I don't care; I want out,''' said E. Craig Coats Jr., who co-heads fixed income at Keefe, Bruyette & Woods Inc. in New York. ``Everybody seems to be saying `I want to be in cash or Treasuries.'''
The 10-year note's yield fell this week 24 basis points, or 0.24 percentage point, to 3.69 percent, the biggest drop since the period ended Oct. 3. The yield was little changed today at 4:26 p.m. in New York, according to BGCantor Market Data. The 4 percent security due in August 2018 traded at 102 1/2.
Yields on two-year notes declined 9 basis points this week, also the biggest decrease since Oct. 3, to 1.52 percent.
The 30-year bond's yield plunged to 3.8676 percent, the lowest since 1977, shortly before 6 a.m. as Asian and European stocks tumbled. It later rose to 4.07 percent. For the week, the bond's yield was down 26 basis points.
`New Risks'
``There's a total risk aversion that keeps getting ramped up that is resulting in liquidation of risk assets,'' said Francis Mustaro, who heads a group managing about $500 million at J&W Seligman & Co. in New York. ``Now we have some new risks that are being highlighted that are sovereign-related,'' such as ``plunging currencies.''
Treasuries fell from their highs as stocks pared losses. The Dow Jones Industrial Average and the Standard & Poor's 500 Index both dropped more than 5 percent before trimming declines to about 3.5 percent. The MSCI World Index lost 4.6 percent.
``So far, the world hasn't come to an end -- equities are not in full free fall,'' said Arthur Bass, a managing director of derivatives in New York at the brokerage Newedge USA LLC. ``There is a tremendous risk premium priced into the Treasury market. Their prices are very sensitive to equity prices.''
The U.S. is considering taking stakes in about 20 financial companies and may include insurers as it begins a second round of capital injections to thaw a freeze-up of the financial system. A final decision hasn't been made on the roster of firms to be included, a person briefed by the Treasury said on condition of anonymity.
`More Painful'
U.S. stock-index futures plunged to their daily limits in trading before the open of U.S. exchanges, with contracts on the Dow average expiring in December dropping 550 points and S&P futures tumbling 60 points.
``There's no question that it's the plunge in equities around the globe that's causing the bid to Treasuries,'' said Kevin Flanagan, a fixed-income strategist at Morgan Stanley Global Wealth Management Group in Purchase, New York. ``People are realizing that this will be a lot more painful, deeper and longer than previously assumed.''
While Treasuries will benefit from a flight to the relative safety of government bonds, investment-grade debt and securities issued by mortgage finance companies Fannie Mae and Freddie Mac may be attractive ``from a tactical standpoint,'' Flanagan said.
Yield Spread
The difference between yields on two- and 10-year notes widened today for the first time in more than a week as the shorter maturities, which are more sensitive to monetary policy, outperformed. The yield spread increased 11 basis points to 2.18 percentage points. It's still narrower than this year's high of 2.39 percentage points on Oct. 15.
Traders can profit from a widening yield spread by buying two-year notes and selling 10-year notes.
This year's credit-market meltdown prompted Federal Reserve officials to make an emergency reduction in borrowing costs on Oct. 8, and they'll cut again when they meet on Oct. 29, interest-rate derivatives indicate.
Futures on the Chicago Board of Trade show a 100 percent chance policy makers will lower their target for overnight bank lending, now 1.5 percent, by at least a half-percentage point, compared with 38 percent odds a week ago.
Emerging Markets
Investors sold emerging-market stocks, bonds, and currencies as the credit crisis infiltrated developing economies. The Polish zloty and Hungarian forint had their biggest weekly declines. Ukraine's foreign-currency debt was lowered one level to B, five steps below investment grade, because of the ``rising cost to the Ukrainian government of a necessary recapitalization of the banking sector,'' Standard & Poor's said. Russia's credit rating outlook yesterday was lowered to ``negative'' from ``stable.''
The yen climbed to a 13-year high against the dollar as the global rout in stocks prompted investors to dump higher-yielding assets and pay back low-cost loans in Japan. The British pound weakened the most in at least 37 years after a report said the economy contracted 0.5 percent in the third quarter, bringing the nation to the brink of a recession.
Yields on three-month Treasury bills, sought as a haven in times of uncertainty, fell 11 basis points to 0.85 percent after earlier touching a one-week low of 0.75 percent. They were 3.38 percent at the start of the year.
`Price Pop'
The difference between what banks and the U.S. government pay to borrow for three months, known as the TED spread, widened for a second day, to 2.66 percentage points. The spread, which is the difference between three-month bill yields and the three- month London interbank offered rate, is more than triple this year's low of 76 basis points in May.
Yields on Treasury Inflation-Protected Securities due in five years or less were higher than yields on conventional Treasuries of similar maturity in another sign investors are liquidating positions and betting on a deepening U.S. recession.
The difference between yields on five-year Treasuries and five-year TIPS, known as the breakeven rate, fell as low as minus 0.43 percentage points, a record. TIPS typically yield less than Treasuries because their principal payments rise at the rate of inflation. A shrinking breakeven rate indicates investors expect inflation to slow.
TIPS are ``a cheap sector,'' said William Chepolis, who oversees about $9 billion of bonds as a fixed-income fund manager in New York at DWS Investment, a unit of Frankfurt-based Deutsche Bank AG. He said he favors 10-year TIPS. The 10-year breakeven rate was 0.71 percent today.
``At some point there will be inflation expectations greater than 1 percent, and you'll get a pretty nice price pop in that security,'' Chepolis said.
To contact the reporters on this story: Sandra Hernandez in New York at shernandez4@bloomberg.net; Cordell Eddings in New York at ceddings@bloomberg.net
