The 30-year US Treasury bond rallied on Friday, though it remained a wallflower relative to shorter maturities expected to benefit most from the likely resumption of Federal Reserve asset purchases next month. While the 30-year bond rallied four out of five days this week, the gains only partially reverse its losses over the last month, leaving its performance still behind the curve relative to shorter maturities.
That's because market participants assume the 30-year bond won't be on the Fed's shopping list should the US central bank re-start measures to support the economy, as it is widely expected to do in the hope of fostering employment and avoiding deflation.
The 30-year bond is also the focus of the bond market's concerns that the Fed's renewed attempts to stimulate the economy could eventually lead to too much inflation. "In this environment, that's not a huge concern, but somewhere down the road, if the economy revives and the Fed does not unwind its stimulus in a timely manner, people worry about the prospect of another bubble in some asset class," said Tommy Huie, president and chief investment officer of Milwaukee, Wisconsin-based M&I Investment Management Corp advisor to The Marshall Funds, with more than $35 billion in assets under management.
Bond investors do not like inflation because it erodes the value of fixed-income securities. The 30-year bond yield rose 11/32, its yield easing to 3.94 percent from 3.96 percent late Thursday, but up from 3.74 percent a month ago. In contrast, the benchmark 10-year note slipped 4/32, its yield edging up to 2.56 percent from 2.55 percent on Thursday - and unchanged from a month ago. Shorter maturities, located in the so-called belly of the curve, have rallied over the last month as additional asset purchases by the Fed have looked more and more likely.
Yields on two-, three-, five- and seven-year Treasury notes have all come down over the last month, even if five- and seven-year yields edged up almost imperceptibly on Friday. The Treasury will auction more of those securities next week.
The Treasury is selling $109 billion of coupon-bearing supply next week, including a $10 billion sale of five-year Treasury Inflation-Protected Securities on Monday. Traders widely anticipate the US central bank to begin another round of quantitative easing, dubbed "QE2," after its November 2-3 policy meeting. Many think the Fed will focus on government debt in the five-to-10-year range, whose yields are linked to mortgage rates and investment benchmarks.
What isn't certain is whether the Fed's approach will be very assertive, or more gradualist. "Is the market pricing in a 'shock-and-awe' or a more limited, open option? That's what the market is trying to get its arms around," said David Gottlieb, principal at EMF Financial Products in New York.
In recent days, some Fed officials have expressed their support for an open-ended, gradual approach to QE2, not a "shock and awe" one that bond bulls have been hoping for. St. Louis Fed President James Bullard said on Thursday he would back Fed purchases of Treasuries in $100 billion increments meeting-by-meeting if the Fed decides monetary easing is necessary, but stressed no decision has been made.
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