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Falling T-bond yields leave Wall St. guessing about the message

September 29, 2009 |  5:30 am

Continued strong investor demand for long-term Treasury securities pushed benchmark yields down on Monday to their lowest levels since spring.

That may help put more downward pressure on mortgage rates, which tend to take their cues from Treasuries.

The annualized yield on the 10-year T-note, charted below, fell to 3.29%, the lowest since May 20 and down from 3.32% on Friday.

The 30-year T-bond yield, meanwhile, is testing the 4% level for the first time since April: It ended at 4.03% on Monday, down from 4.09% on Friday. The yield was 4.6% as recently as early August.

10yearT-note

Investors' appetite for long-term Treasuries could be a bad sign for the economy, if it's based on buyers' desire to lock in safe fixed returns because they believe the economic recovery will be cut short.

Tony Crescenzi, a bond portfolio manager at Pimco in Newport Beach, says that a slide through the 4% level on the 30-year T-bond would suggest a "breakdown" of faith that the economy can sustain its attempt to rebound.

But he said investors looking for a haven may have had other motivations in recent days, including Iran's announcement that it successfully test-fired medium-range missiles.

Quarter-end "window dressing" by portfolio managers also may be temporarily magnifying demand for Treasuries.

Still, Crescenzi noted that low inflation expectations make U.S. bonds fundamentally attractive to many investors even at current reduced yield levels.

If annualized inflation stays at 1.5% or less in the near term, a 10-year T-note paying 3.29% would produce a real (after inflation) yield of at least 1.79%. That would be about on par with the T-note's average annualized real yield of 1.85% over the last 10 years, Crescenzi said.

Some analysts think investors are making a mistake to buy bonds here. Mike Kastner, head of fixed income at money manager Sterling Stamos in New York, said he doubted that long-term Treasury yields would stay at current levels for long.

Given the ongoing mammoth issuance of new debt by the Treasury to fund the budget deficit, "I think it's going to be hard to maintain these levels" on yields, he said. In theory, investors should demand higher returns to take the debt from Uncle Sam if the market is glutted with supply.

But that was the concern a month ago, too. Yet buyers absorbed record sales of Treasury debt in September with ease.

A Bloomberg News survey of 18 major bond dealers this week found them split on where they expect the 10-year T-note yield to end this year. Ten predict a year-end yield above current levels, while eight predict a further drop in the yield.

On the high end: Bank of America, which predicts the yield will rise to 4%. On the low end: Credit Suisse, which forecasts a plunge to 2.5%.

-- Tom Petruno

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