Treasuries Fall as Stocks, Mortgage Purchase Ease Haven Appeal

Treasuries fell as a rally in stocks and a report that the Federal Home Loan Bank may purchase as much as $150 billion of mortgage bonds diminished the appeal of government debt.

Two-year notes extended their biggest weekly loss this year before the Treasury's monthly sale of the notes March 26. The government will auction five year notes a day later.

``The fear has been somewhat dissipated,'' said Andrew Richman, who oversees $10 billion in fixed-income assets as a strategist in West Palm Beach, Florida, for SunTrust Bank's personal asset management division. ``There was no other sector anybody had wanted to touch besides Treasuries.''

The two-year note's yield rose 18 basis points to 1.77 percent, the highest since March 11. The price of the 2 percent security due in February 2010 declined 11/32, or $3.44 per $1,000 face amount, to 100 14/32, at 10:28 a.m. in New York, according to bond broker Cantor Fitzgerald LP.

Yields on three-month Treasury bills rose 29 basis points to 0.86 percent, the biggest increase since Dec. 24. They touched 0.387 percent last week, the lowest since at least 1954.

Richman is seeking to buy investment-grade corporate bonds and mortgages.

U.S. stocks rallied for a second day after JPMorgan increased its takeover offer for Bear Stearns to about $2 billion. The Standard & Poor's 500 Index rose 1.5 percent, while Dow Jones Industrial Average climbed 1.5 percent.

`Negative Correlation'

The agreement values Bear Stearns shares at about $10 apiece. Under the terms of the deal the two firms struck March 16, the takeover price had been $2.52, based on last week's closing price.

Two-year note yields have moved in the same direction as the S&P 80 percent of the time since February, according to Bloomberg data, indicating Treasuries fall when stocks rise eight times out of 10.

``There's been a pretty strong negative correlation between equities and Treasuries where Treasuries sell off when equities are stronger,'' said James DeMasi, a fixed-income strategist in Baltimore at the brokerage Stifel Nicolaus & Co.

Federal Home Loan Banks were freed to increase their purchase of mortgage bonds by a least $100 billion as part of an effort to bolster demand for the securities.

Directors of the Federal Housing Finance Board approved the temporary increase today, according to a statement distributed by e-mail. The purchases will be restricted to securities guaranteed by Fannie Mae and Freddie Mac, the board said.

Treasuries extended losses after the National Association of Realtors said sales of existing homes in the U.S. unexpectedly rose in February for the first time in seven months, easing concern credit restrictions and falling prices would hurt demand.

Treasury, Fed Auctions

Traders also sold government debt in the expectation prices will fall as the Treasury Department and the Federal Reserve auction Treasuries this week.

The Treasury will sell $46 billion of three- and six-month bills today and announce how much it plans to raise with an auction of four-week securities tomorrow.

The government will probably sell $28 billion of two-year debt on March 26, in what would be the largest-ever sale of the securities, according to Jersey City, New Jersey-based Wrightson ICAP, a unit of the world's biggest inter-bank broker that specializes in U.S. government finance. The government will sell $18 billion of five-year notes on March 27, which would be the largest amount since August 2003, according to Wrightson. The Treasury will announce the amounts at 11 a.m..

The Fed on March 19 expanded collateral eligible for its auction of Treasuries to include bundled mortgage debt and securities linked to commercial real-estate loans. The New York Fed bank, which is conducting the $200 billion Term Securities Lending Facility program, set the amount of the first auction on March 27 at $75 billion.

`Perfect Storm'

``We see a perfect storm brewing that should send Treasury yields higher over this period,'' William O'Donnell, head of U.S. government bond strategy at UBS Securities LLC in Stamford, Connecticut, wrote in a note today. The supply of Treasuries will rise ``just as investors begin to question why they want to linger in the Treasury market with such juicy yields elsewhere.''

Investor sentiment toward Treasuries declined last week, Ried, Thunberg & Co. said in its survey of fund managers. Its index for the outlook through the end of December fell to 43 for the seven days ended March 20 from 46 the week before. A number above 50 signals investors expect Treasury prices to rise. The 36 investors surveyed by the Westport, Connecticut, company, which is another ICAP unit, manage a combined $1.35 trillion in assets.

To keep the credit crisis from throwing the U.S. economy into a recession, the Fed cut its target rate for overnight loans between banks by 3 percentage points since September, and gave securities firms access to the so-called discount window.

Writedowns

The world's biggest financial companies had at least $195 billion in writedowns and credit losses tied to subprime mortgages and collateralized debt obligations, according to data compiled by Bloomberg. Treasuries of all maturities have returned 5 percent this year, the most since at least 1987, according to Merrill Lynch & Co. bond indexes.

Two-year notes yielded about 208 basis points less than 10- year notes on March 6, the widest since 2004. A flatter yield curve indicates traders are paring holdings of shorter-maturity debt, which is most sensitive to expectations about interest rates.

Futures on the Chicago Board of Trade show there is a 60 percent chance the Fed will cut its rate by another half point to 1.75 percent on April 30, declining from 80 percent odds a week ago.

Mortgage Securities

On March 7, the Fed's board announced a series of 28-day repurchase agreements, or short-term loans, expected to total $100 billion in which it would accept mortgage-backed securities as collateral. The Fed March 20 said it would expand the collateral it accepts in the so-called Term Securities Lending Facility to include commercial property loans and bundled mortgage debt.

Its next step may be to help facilitate a Resolution Trust Corp.-type agency that would buy bonds backed by home loans, said Bill Gross, manager of the world's biggest bond fund at Pacific Investment Management Co. in Newport Beach, California.