Treasuries fell, extending a third weekly loss, as traders added to bets on inflation and Federal Reserve Bank of Richmond President Jeffrey Lacker said interest rates may rise this year. The difference between yields on 10-year notes and Treasury Inflation Protected Securities, a gauge of expectations for consumer prices over the life of the debt, widened to 2.62 percentage points, the most in 32 months. Federal funds futures contracts show the chance of a rate increase this year is 36 percent, and the probability of one in the first quarter of 2012 is 71 percent. The European Central Bank yesterday raised its key rate for the first time since July 2008. “Bonds are selling off as there’s a general perception that policy rates are headed higher around the world,” said Eric Wand, a rates strategist at Lloyds Bank Corporate Markets in London. “Yesterday’s move by the ECB cemented that view. We think the Fed may hike in the fourth quarter.” Ten-year yields increased five basis points, or 0.05 percentage point, to 3.60 percent as of 11:03 a.m. in London, according to Bloomberg Bond Trader prices. It reached 3.605 percent, the most since Feb. 18. The 3.625 percent note maturing in February 2021 declined 13/32, or $4.06 per $1,000 face amount, to 100 1/4. The 10-year yield has gained 15 basis points since April 1, according to data compiled by Bloomberg. The two-year note yield gained four basis points to 0.83 percent, while the 30-year bond yield rose three basis points to 4.65 percent, after reaching 4.66 percent, the highest since March 9. The 30-year yield has increased 16 basis points in the week, the most since the week ended Feb. 4. Officials Differ Fed officials last month were divided over whether to begin removing record stimulus this year as they debated the path of monetary policy after the completion of their $600 billion bond- purchase program, minutes released this week of their March 15 meeting showed. They also differed in their public statements. “Rate hikes by year-end are certainly a possible outcome at this point given what we see in the momentum of economic growth and given how the inflation risks seem to have evolved,” Lacker told reporters yesterday in Roanoke, Virginia. St. Louis Fed President James Bullard said March 29 the central bank may be able to cut about $100 billion from its plan to buy Treasury securities. Fed Bank of Cleveland President Sandra Pianalto said yesterday that U.S. borrowing costs will stay at the current level for an “extended period of time.” Longer Maturities The longest maturities, those most sensitive to inflation, are suffering the steepest declines. They also slid as the U.S. prepared to sell $32 billion of 3-year notes, $21 billion of 10- year debt and $13 billion of 30-year bonds in three daily auctions beginning April 12. “People are thinking the Fed will hike,” said Chungkeun Oh, a fixed-income trader in Seoul at Industrial Bank of Korea, South Korea’s largest lender to small and medium-sized companies. “I’m not sure if it will happen this year or next, but we have to prepare for it. Yields are rising.” Industrial Bank sold Treasury futures and is paying fixed rates and receiving floating rates in the swaps market, Oh said. He has held the positions, which protect his holdings in case Treasury prices fall, since early February, he said. Thirty-year bonds have handed investors a 3.4 percent loss this year, while securities due in 12 months and less are little changed, according to Bank of America Merrill Lynch data. The MSCI All Country World Index of stocks returned 6 percent in the period including reinvested dividends. Sales Reduced Six- and three-month yields have fallen this week as the Treasury cut to $5 billion from $200 billion the amount of outstanding Supplementary Financing Program bills it sells on behalf of the Fed in a program set up in 2008 to support the financial system. The reduction was made as the U.S. approaches its federal debt limit. Six-month bill rates were 0.1149 percent after sliding to record low 0.1099 percent on April 4. Three-month rates fell to 0.0304 percent this week, the lowest since January 2010. President Barack Obama and U.S. lawmakers are working to reach a compromise on the budget and avert a partial government shutdown. House Speaker John Boehner, an Ohio Republican, is seeking $40 billion of cuts, after the government’s publicly traded debt ballooned to a record $9.13 trillion. “A shutdown is positive for U.S. Treasuries,” said Hiromasa Nakamura, a senior investor at Mizuho Asset Management Co. in Tokyo, which oversees the equivalent of $41.1 billion and is a unit of Japan’s second-largest bank. “It’s negative for the economy.” Shutdown Losses The direct costs of lost income to federal workers and contractors would be about $6 billion a week, said Mark Zandi, chief economist at Moody’s Analytics Inc. in West Chester, Pennsylvania. U.S. government debt gained 0.8 percent during the 21-day government closure that took place at the end of 1995 and the start of 1996 under President Bill Clinton, the Bank of America figures show. Treasury yields are below levels seen in the past decade even as government borrowing increases. Ten-year rates climbed as high as 5.53 percent in 2001 as traders speculated on when the Fed would finish cutting borrowing costs. The rate has averaged 4.12 percent over the last 10 years. The TIPS gauge of inflation expectations was as high as 2.74 percent in 2006 prior to the U.S. recession that began in December 2007 and lasted for 18 months. The 10-year yield will advance to 3.95 percent by year-end, according to a Bloomberg survey of banks and securities companies, with the most recent forecasts given the heaviest weightings. “The near-term risks are skewed toward higher yields,” Jim Caron, the New York-based global head of interest-rate strategy at Morgan Stanley, wrote in a report yesterday. To contact the reporters on this story: Keith Jenkins in London at kjenkins3@bloomberg.net; Wes Goodman in Singapore at wgoodman@bloomberg.net. To contact the editor responsible for this story: Daniel Tilles at dtilles@bloomberg.net

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