U.S. 10-year yields trade close to record lows on Europe concern

May 29 (Bloomberg) -- Treasury yields traded close to record lows after Spain said it may need to sell bonds to rescue Bankia group, increasing demand for the safest assets.

U.S. 10-year notes fluctuated as the announcement added to concern the European debt crisis is worsening. Treasuries have returned 2.6 percent since the end of March, according to Bank of America Merrill Lynch indexes. Investors tracking the MSCI All-Country World Index of stocks lost 9 percent. U.S. yields are poised to “grind lower,” according to Deutsche Bank AG.

“There’s a renewal of European crisis concerns,” said Ian Lyngen, a government bond strategist at CRT Capital Group LLC in Stamford, Connecticut. “Flight to quality remains a key bullish underpinning as the market digests headlines overseas.”

The benchmark 10-year yield was little changed at 1.73 percent at 9:55 a.m. New York time, according to Bloomberg Bond Trader prices. The 1.75 percent security due May 2022 traded at 100 1/8. The yield dropped to as low as 1.71 percent, approaching the record 1.6714 percent set on Sept. 23.

Treasury trading was shut in the U.S. yesterday for Memorial Day.

Yield Trend

The 10-year yield touched a 2012 low of 1.69 percent on May 17 after reaching a high of 2.4 percent on March 20. It will increase to 2.42 percent by year-end, according to the median forecast in a Bloomberg survey of financial companies with the most recent projections given the heaviest weightings. Treasuries have returned 1.2 percent this year, according to Bank of America Merrill Lynch data.

Valuation measures show Treasuries are close to the most expensive levels ever. The term premium, a model created by economists at the Federal Reserve, touched negative 0.8 percent, close to the most expensive closing level ever of negative 0.83 percent reached May 17. A negative reading indicates investors are willing to accept yields below what’s considered fair value.

Spanish 10-year bond yields climbed as high as 6.53 percent today, the most since November, on concern the nation’s banks will need additional financial support to weather the debt crisis. The nation’s favored option is to raise funds for refinancing Bankia in debt markets, said a spokesman for the Economy Ministry, who asked not to be identified by name in line with policy.

Spanish Bonds

The extra yield investors demand to hold Spanish 10-year securities instead of their German counterparts increased to 5.16 percentage points, the widest since the introduction of the euro in 1999.

Deutsche Bank, one of the 21 primary dealers that deal directly with the Fed, is skeptical of trades that add risk, according to a report on May 25.

“We remain buyers of Treasuries on dips,” Dominic Konstam, global head of interest-rate research in New York for the bank, wrote in the report. “We continue to expect Treasury yields to grind lower.”

Primary dealer holdings of U.S. government debt rose to $108 billion, the highest ever, as of May 16, from a net bet against the securities of $11.9 billion in September, according to the Fed. Banks have added Treasuries to meet revised reserve rules from the Dodd-Frank financial-overhaul law and Basel III regulations set by the Bank for International Settlements in Basel, Switzerland.

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