By Daniel Kruger and Dakin Campbell Nov. 21 (Bloomberg) -- Treasuries fell and yields climbed from record lows as demand eased for the safety of U.S. government debt. Benchmark 10-year notes are still headed for their biggest weekly gain since the stock market crash of 1987, as deflation expectations increase and traders hedge derivatives bets by purchasing longer-maturity debt. The difference in yield between two- and 10-year notes widened for the first time in six days amid speculation the Federal Reserve will cut its target rate by 75 basis points in December to head off a deepening recession. “You have unprecedented moves, record low yields in the market, which limit the upside,” said Sean Murphy, a Treasury trader and strategist in New York at RBC Capital Markets, the investment-banking arm of Canada’s largest bank. “Stocks will dictate some of the performance and if stocks continue to sell off, the back-end again will benefit.” The yield on the 10-year note increased 17 basis points to 3.18 percent at 11:01 a.m. in New York, according to BGCantor Market Data. The 3.75 percent security maturing November 2018 dropped 1 16/32, or $15 per $1,000 face amount, to 104 27/32. The yield fell 55 basis points this week and reached 2.99 percent yesterday, the lowest level since at least 1962. The two-year note yielded 1.07 percent, up 11 basis points from yesterday, the biggest gain in a month. It dropped yesterday to the lowest level since regular issuance of the securities began. Five-year yields climbed 10 basis points to 2 percent. ‘Overreaction’ “Anytime you have a move of that magnitude you have to start giving back some of it,” said Tom di Galoma, head of Treasury trading at Jefferies & Co., a brokerage for institutional investors in New York. “The market place is sort of in panic mode, every time you get a panic you get an overreaction to both the upside and the downside.” The MSCI World Index of stocks was little changed after a drop of 6 percent yesterday. The Standard & Poor’s 500 Index was also little changed after posting its biggest decline in 11 years yesterday. The S&P 500 is down 49 percent in this year, poised for the worst annual decline in its 80-year history, prompting traders to increase bets on more interest-rate cuts by the Fed. “Equities remain in the driver’s seat,” wrote technical analysts at Barclays Capital led by Jordan Kotick in New York. “A bounce or even consolidation against these levels would likely lead to a near-term pause in the fixed-income bull- trend.” Bill Demand Treasuries have returned 9.3 percent this year, heading for their best year since 2002, according to Merrill Lynch & Co.’s U.S. Treasury Master index. Rates on three-month bills dropped to 0.02 percent yesterday, equal to the level reached after Lehman Brothers Holdings Inc. collapsed and the lowest since the start of World War II. The yield on the three-month Treasury bill rose 1 basis point today. “We even have negative intraday yields on some trades,” said Christoph Rieger, a fixed-income strategist in Frankfurt at Dresdner Kleinwort. “Investors are more concerned about the return of their capital than the return on their capital.” Futures on the Chicago Board of trade show 28 percent odds policy makers will lower the 1 percent target rate for overnight lending between banks to 0.25 percent at their next meeting on Dec. 16, compared with zero odds a week ago. Longer-maturity Treasuries, which are more sensitive to inflation expectations, underperformed today as speculation waned that the economic slump will trigger deflation, or a prolonged decline in consumer prices. Breakeven Rates The extra yield that 30-year bonds offer over two-year notes was little changed at 258 basis points. The breakeven rate, or the difference in yield between two- year inflation-protected and nominal debt, narrowed for the first time in six days. The gauge, which measures the anticipated rate of inflation over the life of a security, narrowed to minus 3.98 percent from minus 4.03 percent. “Fears of deflation, a new fiscal stimulus, the global recession and terms-of-trade changes are all influencing real yield curves,” analysts led by chief U.S. economist Richard Berner in New York at Morgan Stanley, wrote in a report. A “massive policy stimulus, in some cases using unconventional tools, will eventually stabilize markets, avert deflation, and promote a slow recovery.” Job cuts in the financial services industry may double to about 350,000 worldwide by mid-2009, said Brian Sullivan, chief executive officer of search firm CTPartners. European Debt JPMorgan Chase & Co., the largest U.S. bank, plans to fire about 10 percent of its investment banking staff, or about 3,000 people. Bank of New York Mellon Corp., the world’s largest custodian of financial assets, plans to cut about 4 percent of its workforce, or 1,800 people. The rally in Treasuries spread to German and U.K. bonds, and Goldman, Sachs & Co., one of the 17 primary dealers that underwrite U.S. debt sales, said the gains have further to go. The yield on the benchmark U.S. 10-year bond may decline to 2.75 percent by early next year, Francesco Garzarelli, Goldman’s chief interest-rate strategist, wrote in a report. The Fed has cut its target rate for overnight lending between banks from 5.25 percent in 14 months as it tries to revive an economy that may shrink 2.05 percent in the fourth quarter, based on a Bloomberg News survey of banks and securities companies. Gross domestic product contracted 0.3 percent in the three months through September. To contact the reporters on this story: Daniel Kruger in New York at dkruger1@bloomberg.net; Dakin Campbell in New York at dcampbell27@bloomberg.net;

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