Bonds gain in worries over European weakness

NEW YORK: US Treasuries prices rose on Thursday as credit worries about Europe fed safety demand for US bonds, temporarily pushing aside concern over the potential of a US default due to the debt ceiling gridlock.

Disappointing demand at an Italian debt auction sparked worries the euro zone's third largest economy is closer to succumbing to the debt ills plaguing its neighbors. This rekindled anxiety that the European debt crisis is far from over despite the recent 109 billion euro aid package for Greece.

"Global risks are outweighing the US debt ceiling situation right now," said Jessica Hoversen, fixed income market analyst at MF Global in New York.

Treasuries trimmed gains on Thursday afternoon after the auction of $29 billion of seven-year notes. The sale brought a higher yield than investors had expected, indicating reluctance to buy the notes at price levels on the open market.

"The ongoing debt ceiling drama and the heightened level of market uncertainty probably kept some bidders away from this auction, but the fact remains that this issue has not drawn an overly aggressive bid at auction for several months," said Thomas Simons, money market economist with Jefferies & Co. in New York.

Early market gains were also held in check after a bigger-than-expected fall in jobless claims, surprisingly strong data on home sales and a stabilization in Wall Street following four days of losses due to the debt standoff in Washington.

The US House of Representatives is tentatively set to vote between 5:45 p.m. and 6:15 p.m. (2145-2215 GMT) on a proposal by Republican House Speaker John Boehner, which could break the impasse in Washington over raising the $14.3 trillion statutory debt ceiling.

This move might be the catalyst for a compromise that would avert a US government default in less than a week. The lack of progress in Washington on a debt deal has spooked markets and escalated the chances that the world's largest economy could lose its coveted top-notch credit rating.

President Barack Obama has threatened to veto the Boehner-led bill and a majority of the Democratic-controlled Senate has vowed to vote against it.

Benchmark 10-year notes last traded up 4/32 in price to yield 2.97 percent, down 2 basis points from late Wednesday, while the 30-year bond was up 15/32 in price with a yield of 4.26 percent, down 3 basis points.

In light of Washington's fight over debt reduction and increase of the debt ceiling, there were some signs US Treasuries were falling out of favor as the go-to investments in Thursday's safe haven move.

US government debt have lagged other AAA-rated sovereign bonds such as German Bunds and British gilts. For example, the yield spread between 10-year Treasuries and 10-year Bunds held at its widest level since February at 32 basis points. It has grown from 14 basis points a week ago.

In the derivatives market, the cost to insure US Treasuries for five years rose to 66 basis points, the highest level since early 2010, while one-year US CDS prices were quoted at 80 basis points after touching a record high 85 basis points, according to data firm Market.

Copyright Reuters, 2011