Surge in US bond yields sparks concern

By Michael Mackenzie and Alan Rappeport in New York and David Oakley in London
Published: June 10 2009 20:23 Financial Times

US long-term interest rates rose to the highest level of the year on Wednesday, threatening the “green shoots” of recovery, after the latest sale of 10-year government debt met with a tepid response from inflation-wary investors.

Concerns about the growth of government borrowing forced the US Treasury to give investors in an auction of $19bn in 10-year notes a yield of 3.99 per cent – 4 basis points higher than the yield available before the auction. That constituted the biggest yield markup since a 10-year auction in May 2003, said Morgan Stanley. Yields on the 10-year note, the benchmark rate for US mortgages, hit a high of 4 per cent during the day, up from 3.6 per cent a week ago.

“We are seeing traders draw a line in the sand at 4 per cent” on 10-year notes, said Tom di Galoma, head of US rates trading at Guggenheim Capital Markets. In recent months, auctions have often been awarded at higher-than-expected yields, with dealers and investors being asked to buy higher amounts of debt as the US Treasury seeks to fund a growing budget deficit.

The next test of the US Treasury’s issuance program looms on Thursday with the sale of $11bn in 30-year bonds. An auction of 30-year bonds last month went badly as investors signalled their concerns about the budget deficit.

“That did not go well last time, so there is also some additional concern,” said Dominic Konstam, head of interest rate strategy at Credit Suisse.

Traders said the good news of the day was that buyers entered the market when yields reached 4 per cent. “There should be natural support for the 10-year note around 4 per cent,” said Mr Konstam. Late on Wednesday, the yield on the 10-year was 3.95 per cent, up 9 basis points on the day.

The rise in yields pressured equities and the S&P 500 index fell 0.4 per cent.

Sentiment for equities was also hurt by a disappointing Beige Book survey on the economy by the Federal Reserve. Its report on the health of the economy revealed that economic conditions “remained weak or deteriorated further” from mid-April through May.

Steven Ricchiuto, chief economist at Mizuho Securities, said the report “paints a picture of an economy still in the process of finding a bottom and not having hit one”.

Last week, Ben Bernanke, chairman of the Federal Reserve, said US exports could start to benefit if recent signs of stabilisation in foreign economic activity proved accurate.

However, several districts reported in the latest Beige Book that shipments for steel and wood products remain depressed, especially outside of Asia.

According to the Fed, five out of its 12 US districts said the prolonged downturn was showing signs of moderating, with the outlook improving for manufacturing and housing in some areas. But, it said, credit remains tight, the labour market continues to suffer from flat or falling wages and commercial property vacancy rates are rising.