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Why Wall Street is deserting Treasuries and the dollar

May 22, 2009 |  1:56 pm

This week couldn't end fast enough for the Treasury bond market or the dollar, both of which were hammered again Friday as investors bailed out in thin pre-holiday trading.

The yield on the 10-year T-note jumped to 3.44%, up from 3.35% on Thursday and 3.14% a week ago. The yield now is the highest since mid-November.

So much for the idea of Treasuries being a haven: The iShares Barclays 20+Year Treasury exchange-traded fund, which owns long-term government bonds, has lost 22% of its value since the start of the year as rising market yields have depressed older bonds’ prices.

In the currency market the euro shot up to a five-month high of $1.40 from $1.39 on Thursday and $1.35 a week ago. The dollar also slumped further against most other major currencies and a lot of minor ones.Raterocket As for the stock market, it performed a modest levitation act for much of Friday's session, only to surrender to gravity in the last hour.

Global investors and traders suddenly seem to have every reason in the book to sell Treasuries and the greenback, and no reason to buy.

One camp, for example, is betting that the economy has bottomed and that it’s smarter to bet on riskier investments, such as corporate junk bonds, stocks, commodities and emerging-market currencies, than on low-yielding Treasuries or the dollar.

Another camp is worried that the unprecedented surge in U.S. government borrowing (to bail out the economy) finally has become too much for the market to bear, fueling fears of an even bigger spike in T-bond yields ahead.

"I think the supply dynamic is just getting overwhelming," said Tom Tucci, head of Treasury trading at RBC Capital Markets in New York.

What’s more, Standard & Poor’s rattled bond investors on Thursday after it warned that Britain could lose its AAA credit rating because of that government’s soaring debt load. S&P didn’t say anything about Uncle Sam’s AAA rating, but the markets made the link, anyway, as noted in this post. That, too, was a downer for the dollar.

The Obama administration might not care much about rising Treasury yields and a falling dollar, except for the velocity of the moves: The U.S. can’t afford a continuing spiral up in yields and spiral down in the dollar’s value because they could feed on themselves and unnerve our foreign creditors, particularly China.

And although it hasn’t happened yet, at some point the jump in Treasury yields will begin to push up mortgage rates. Then say goodbye to any hopes for a housing recovery.

All of this sets up markets for another big test next week, when the Treasury plans to sell a total of $101 billion of two-, five- and seven-year notes Tuesday through Thursday.

It’s possible that yields now have risen to a point where buyers will be interested again. But if not, and yields continue to rocket, Wall Street most likely will turn to the Federal Reserve for help -- expecting the central bank to step up its manipulation of the Treasury market by boosting its purchases of bonds.

Even if the Fed complies, however, there’s no guarantee it will succeed in damping yields if sellers keep swarming.

"When the market is against you it’s very hard to have a successful intervention," warns Dominic Konstam, an interest-rate strategist at Credit Suisse in New York.

-- Tom Petruno