US Treasury debt prices fell on Tuesday as reinvigorated bond bulls appeared satiated by two weeks of buying, but analysts said lingering problems in the housing sector should continue to bolster the market.
Dealers said the collapse of two Bear Stearns hedge funds due to their dealings in sketchier subprime mortgages was preventing any wholesale exit from government bonds. "There will still be some defensive money put into the market, given the uncertainties in the mortgage arena," said John Spinello, Treasury bond strategist with Jefferies & Co.
Equities stabilised as traders seemed to push aside worries about the ripples from low-end mortgage investments, which have now begun to affect the highly-leverage hedge fund industry. Bonds were not too heavily under pressure, however. Benchmark 10-year notes retreated only 4/32 and were offering a yield of 5.11 percent, up two basis points on the day.
An auction of $18 billion in new two-year debt was relatively well received but had no effect on prices. The session's US economic data also had little impact. Both new home sales and consumer confidence proved weaker than expected. But the market paid little mind, its energy focused more keenly on what the Federal Reserve might say when it concludes a two-day monetary policy meeting on Thursday.
Before the Bear Stearns debacle, many believed rising economic growth around the world would allow the Fed to leave rates on hold for the foreseeable future, perhaps even signalling as much in the post-meeting statement.
But now that subprime woes are back in the headlines, investors are on the fence. Some think the underlying strength of the economy would help insulate the financial system from Bear Stearns' hedge fund travails. Others, like Bill Gross, the widely followed chief investment officer for Pacific Investment Management Co, see a very real risk of contagion.
This indecisiveness was reflected in futures markets, which were now pricing in about a 36 percent implied chance of a cut in benchmark short-term interest rates by year-end, a prospect that had been all but erased from the market's radar just two weeks ago.
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