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Treasuries Lose Ground Despite Widening Credit Spreads

On Friday, pain in the other bond and debt derivatives market helped Treasuries. Not today.

Nervousness about the outcome of this week's

Federal Open Market Committee

meeting and higher energy prices weighed on Treasury prices today.

The losses lifted the 30-year bond and 10-year note yields to their highest levels in several sessions, and the two- and five-year note yields to their highest levels in more than two years.

The bond fell 15/32 to 95 7/32, lifting its yield 4 basis points to 6.493%. The 10-year note fell 2/32, lifting its yield to 6.667%. The five-year note fell 2/32, its yield rising to 6.685%. And the two-year note lost 2/32, raising its yield to 6.595%.

The Treasury yield curve maintains the unusual shape it took on last week, with the five-year note yielding more than any other benchmark issue, and the 30-year bond yielding less than any other benchmark.

At the

Chicago Board of Trade

, the March

Treasury futures contract finished down 23/32 at 92 7/32.

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Fear of the Fed was part of the reason why Treasuries surrendered their midday gains, market participants said. The FOMC convenes tomorrow, and any change in monetary policy will be announced on Wednesday afternoon. The committee is universally expected to hike the

fed funds rate

to 5.75% from 5.5%. The suspense centers on whether it might hike the rate to 6% in the first 50-basis-point rate hike since February 1995, and on what the FOMC will say in its accompanying statement.

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"There's definitely a camp that thinks the Fed is going to tighten 50 basis points," said Matt Frymier, a Treasury note trader at

Banc of America Securities

in San Francisco. "If that's the case, you're not supposed to be buying anything."

The Treasury market is also being hampered by the upcoming quarterly refunding, in which the Treasury auctions new five-, 10- and 30-year notes and bonds, Frymier said. "You're going to have a chance to buy in the next couple of weeks."

Ergo, there's no particular reason to buy now. And if you're a dealer hoping to pick up the new notes and bonds on the cheap, there's a clear incentive


to buy now. The auctions are slated for next Tuesday, Wednesday and Thursday.

Finally, big rallies in the energy sector spooked the bond market with the threat of bigger inflation numbers down the road. Crude oil gained only 1.2%, but natural gas rose 4.3% and heating oil ramped more than 9% before closing down 1%.

The losses occurred in spite of continuing pain in other debt and debt derivatives markets. On

Friday, falling prices in those markets (together with falling stock prices) translated into gains for Treasuries.

The pain in those other markets appears to stem from the fact that while the Treasury yield curve inverted in the last two weeks, related curves -- the credit curve and the swap curve -- did not, or did not to the same extent.

The Treasury yield curve inverted, meaning that most long-term yields went (and remain) below most shorter-term yields, as the long-term instruments outperformed the shorter-term ones. It happened because the government is planning on reducing the supply of long-maturity issues, its most expensive debt.

But the credit curve, representing the yields on corporate and other risky bonds, and the swap curve, representing the fixed interest rate that can be swapped with a floating interest rate, have merely flattened, or inverted slightly. The supply and demand dynamics that inverted the Treasury curve don't exist in those other markets.

By definition, this widened the difference in yield between some risky bonds and swaps on the one hand and long-term Treasuries on the other.

At the same time, swap spreads are widening because with the


poised to hike interest rates at its meeting this week, floating-rate payors are demanding high fixed rates in exchange, said John Atkins, market analyst at


On Friday, widening credit and swap spreads were said to be the reason why the Treasury market rallied back, after strong economic data hurt it early in the session. People sold credit instruments and buying Treasuries, market analysts said.

Credit and swap spreads widened further today, but Treasuries aren't benefiting. The 10-year swap spread, a benchmark, widened to 78 basis points from 71 on Friday. It was lately 85.50.

Economic Indicators

There were no first-tier economic releases today. This week's highlights are the

Purchasing Managers' Index

for January, tomorrow, and the January

employment report

on Friday.

In today's economic news,

personal income and consumption

for December was more or less as expected.

Personal income rose 0.3%, versus a preliminary forecast of 0.5% among economists surveyed by


. Consumption rose 0.8%, in line with the average forecast. However the November gain in consumption was revised up to 0.7% from 0.5%. And for all of 1999, consumption rose 6.9%, the biggest gain since 1989, when it rose 7.2%


APICS Business Outlook Index

fell to 48.3 in January from 51.2 in December.


Chicago Purchasing Managers' Index

fell to 55.6 from a revised 56.0 in December.

Currency and Commodities

The dollar reversed earlier losses against both the yen and the euro, adding to last week's big gains. It was lately worth 107.37 yen, up from 107.12 Friday. The euro was lately worth $0.9694, down from $0.9745 Friday.

Crude oil for March delivery at the

New York Mercantile Exchange

rose to $27.64 a barrel from $27.22 on Friday.


Bridge Commodity Research Bureau Index

fell to 210.38 from 210.72 on Friday.

Gold for April delivery at the


was unchanged at 286.0.