By Lukanyo Mnyanda and Bob Chen Dec. 11 (Bloomberg) -- Treasuries rose, led by 10-year notes, before government reports economists say will show jobless claims increased and retail sales and producer prices fell, fueling demand for government debt. The securities extended five weeks of gains before a Labor Department report today that may show U.S. jobless claims climbed to a 26-year high. Bill Gross, manager of the world’s biggest bond fund, said he regrets not buying Treasuries after a rally that pushed yields on three month bills below zero this week. The Treasury will sell $16 billion of 10-year notes today. “The jobs data today will underpin the fact that we’re likely to see a deterioration in the economy,” said David Schnautz, an interest-rate strategist in Frankfurt at Commerzbank AG, Germany’s second-biggest lender. “The outlook for Treasuries is improving again. Supply is still an issue.” The yield on the benchmark 10-year note fell two basis points, or 0.02 percentage point, to 2.68 percent as of 6:30 New York, according to BGCantor Market Data. The 3.75 percent security due November 2018 rose 5/32, or $1.56 per $1,000 face amount, to 109 10/32. The two-year note yield slipped one basis point to 0.83 percent. Investors should keep buying bonds as the economic slump deepens and the 10-year yield may drop to 2.5 percent before the end of the year, Schnautz said. Treasuries of all maturities have returned 11.9 percent this year, according to Merrill Lynch & Co.’s U.S. Treasury Master Index, the best performance since the securities gained 13 percent in 2000. Financial Turmoil The notes surged this year with government bonds across the world as the U.S. housing slump pushed up the cost of credit globally, causing equity markets to tumble. Investors sought safety in government bonds as the world’s biggest financial companies incurred almost $1 trillion in writedowns and losses since the start of last year. Yields on three month bills fell to minus 0.01 percent two days ago and were unchanged today at 0.01 percent. The Treasury sold $27 billion of the securities at a discount rate of 0.005 percent, the lowest since it started auctioning them in 1929. “If we went back 12 months and we had known then what we know now, it would have been all invested in Treasuries,” Pacific Investment Management Co.’s Gross said in a Bloomberg Television interview yesterday from Newport Beach, California. The difference in yield between two- and 10-year notes was 1.84 percentage points, down from a five-year high of 2.62 percentage points on Nov. 13. Some investors are turning to longer-dated notes amid speculation consumer prices will drop and as short-term notes yield less than one percent. Falling Prices “Deflationary pressures will occur in the coming quarter,” said Hiromasa Nakamura, a senior investor in Tokyo at Mizuho Asset Management Co., which has $41.9 billion in assets. “The yields will decline further in accordance with the yield- curve flattening.” The Treasury sold $20 billion of 10-year notes on Nov. 12 at an average yield of 3.713 percent, down from as high as 5.21 percent at a sale in June 2007. The $5.3 trillion market for U.S. government debt may be a bubble waiting to burst, according to analysts and investors. Treasuries have “absolutely” entered a bubble, said David Brownlee, who oversees $15 billion as head of fixed income at Sentinel Asset Management in Montpelier, Vermont. “There is very little rationality in my mind to bills trading at zero.” Sentiment among investors in Treasuries turned negative for the first time in four months, according to a JPMorgan Securities Inc. survey of clients. Jobless Claims The number of Americans making initial jobless claims rose to 4.1 million in the week ending Nov. 29, the Labor Department will say today at 8:30 a.m. in Washington. Prices paid to U.S. producers dropped 2 percent in November from the previous month, following a record plunge in October, according to a Bloomberg News survey. Sales at retailers probably fell 2 percent in November, a fifth month of declines, a separate Bloomberg survey showed. Both reports will be released tomorrow. Gains in debt may be tempered before the Treasury’s 10-year auction today, part of record debt sales to fund U.S. financial rescues. A $28 billion auction of three-year securities yesterday drew less demand than before. Private analysts estimate the government’s borrowing needs may reach $1.5 trillion to $2 trillion in the 12 months through Sept. 30, 2009, Treasury Assistant Secretary Karthik Ramanathan said yesterday. Lower demand for government securities “will continue,” said Kei Katayama, who oversees $1.6 billion of non-yen debt as leader of the foreign fixed-income group in Tokyo at Daiwa SB Investments Ltd., part of Japan’s second-biggest investment bank. “The current environment has almost no participants because it’s close to year-end. It may improve in January.” Auction Result The three-year note auction drew a yield of 1.245 percent, the lowest on record. The so-called bid-to-cover ratio was 2.15 times, compared with an average of 2.50 at the past six auctions of similar-dated debt. The “Treasury needs to be prepared to meet additional financing needs if necessary,” Ramanathan said in New York. Public spending and a slowing economy will require “conventional” ways to raise money, such as increasing the size and frequency of debt issuance, selling cash-management bills when short-term funds run low and reintroducing securities when necessary, he said. The U.S. budget deficit swelled to $164.4 billion in November, the second straight month it widened, the Treasury Department said yesterday. The shortfall was $98.2 billion a year earlier. To contact the reporters on this story: Lukanyo Mnyanda in London at lmnyanda@bloomberg.net; Bob Chen in Hong Kong at bchen45@bloomberg.net.

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