US Treasuries price fell on Wednesday as traders sold positions ahead of year-end and long bonds underperformed as investors unwound trades that were designed to profit from Federal Reserve purchases of longer-dated debt. Demand for safe-haven US government debt fell after the European Central Bank drew strong demand for its closely watched first offer of cheap, three-year loans, which eased some concerns over bank funding in the region.
Bonds accelerated price losses after the Treasury had to pay slightly higher yields to sell $29 billion in new seven-year notes in its last sale of coupon-debt for the year. "We're coming to a time of year where people want to deleverage," said Scott Graham, head of government bond trading at BMO Capital in Chicago. "We've had a series of auctions where dealers have taken less and less risk." The $29 billion in new seven-year debt sold at a high yield of 1.43 percent and priced around 1 basis point higher than where the debt had traded before the sale.
The auction was the last of seven auctions of coupon-Treasury debt in the last week-and-a-half. Seven-year notes fell 7/32 in price and yields rose to 1.42 percent, from 1.39 percent before the sale. Benchmark 10-year notes also dropped 14/32 in price, with yields increasing to 1.97 percent, from 1.965 percent.
Thirty-year bonds also underperformed as investors unwound yield-curve-flattening trades designed to profit from Fed purchases of longer-dated debt as part of its "Operation Twist" program, which aims to lower long-term borrowing rates. The Federal Reserve completed its last buyback of long bonds for the year on Tuesday, though it will purchase as much as $5 billion in notes of maturities of around 10 years on Thursday.
"I think at this point we will see people take more trades off and probably re-enter flattening trades in the New Year," said BMO's Graham. "For now I think the trade has run its course." Thirty-year bonds were last down 1-19/32 in price to yield 3.01 percent, up from 2.93 percent late on Tuesday. The yield gap between 10-year notes and 30-year bonds widened to 104 basis points from 98 basis points on Monday.
Treasuries had weakened earlier as strong demand from the ECB's first three-year loan tender was seen as positive for bank liquidity, dampening the safety bid for US bonds. More than 500 banks borrowed 490 billion euros ($639 billion) from the ECB, much higher than the 310 billion euro take-up expected from a Reuters poll.
The funding should bolster bank finances, though it remains to be seen if the cheap funding will be used to buy up risky sovereign debt, as some hope. "It's all very constructive but it doesn't solve the underlying problem," said Eric Green, chief economist and head of interest rate strategy at TD Securities in New York. "We still see a very bumpy road ahead in the first quarter of next year."
Some analysts expect Treasuries demand to regain momentum in the first quarter as heavy European sovereign debt maturities weigh. Analysts at banks including Credit Suisse think 10-year notes yields will rally to new lows of around 1.50 percent. The Fed's policy to keep rates low for an extended period is also likely to keep a cap on yields, as investors have become less responsive to positive economic data.
Previously, including during the 2008 financial crisis, bonds weakened on strong data as investors priced the possibility of the Fed raising rates, said Eric Stein, portfolio manager at Eaton Vance in Boston. "There's going to be pressure from governments to keep rates lower than the rate of inflation or lower than they otherwise would be and that's going to be a factor in the Treasury market for the foreseeable future," Stein said.