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TREASURIES-Prices rise on muted inflation; Spain eyed

Friday, 12 Oct 2012 | 4:16 PM ET

* U.S. core producer prices unchanged in September

* Worries persist over whether Spain will request aid

* Fed buys $1.89 billion in long-dated bonds

(Updates to late afternoon, adds comment)

By Richard Leong and Luciana Lopez

NEW YORK, Oct 12 (Reuters) - U.S. Treasuries prices advanced on Friday as data showed muted underlying U.S. inflation, with investors looking ahead to a key European Union leaders' summit, a possible bailout request from Spain and more data in the coming week.

Benchmark U.S. Treasury yields notched their fourth straight fall as prices, which move inversely with yields, were boosted by safe-haven bids as uncertainty about global growth and the ongoing euro zone debt crisis continued.

The Federal Reserve's latest bond purchase also added to gains in longer-dated debt, analysts said.

Next week, investors will eye a summit of European Union leaders on Oct. 18-19, particularly on the possibility of a Spanish bailout. Some analysts said Spain could put off asking for help.

"Spain's cash position and relatively limited market pressure will prevent the government from being forced to ask for financial support any time soon," wrote analysts from Bank of America Merrill Lynch.

"We expect the timing to depend on market pressure, the likely conditionality, and domestic and broader European politics."

Other key data in the week ahead include U.S. retail sales for September, due Oct. 15, which could clarify whether rising consumer sentiment is translating into more dollars spent at the register.

On Friday, the U.S. government said its Producer Price Index rose 1.1 percent in September, largely due to a 9.8 percent jump in gasoline prices. However, bond traders focused on the index's core rate, which excludes volatile energy and food prices and was unchanged from August.

The muted core PPI reading made it more attractive to own Treasuries and other fixed-income securities since speeding inflation erodes bond values.

The inflation trend is "pretty well contained so that's helped the bond market," said Brian Rehling, senior fixed income strategist with Wells Fargo Advisors in St. Louis, Missouri.

Benchmark 10-year Treasury notes

rose 03/32 in price, yielding 1.660 percent, from 1.6681 percent on Thursday.

The 30-year bond

was up 09/32 in price, erasing an earlier 18/32 decline in overseas trading. The 30-year yield was last at 2.834 percent, from Thursday's close at 2.848 percent.

Prices were off the day's highs as this week's rally petered out.

"The market's just running out of steam," said Kim Rupert, managing director of global fixed-income analysis at Action Economics LLC in San Francisco.

"There wasn't anything very bullish for the market, but also nothing really bearish."

Since the Fed embarked on its third round of large-scale bond purchases, dubbed QE3, a month ago with the goal of bolstering the economy, the 10-year yield has fallen nearly 25 basis points and the 30-year yield about 30 basis points.

Trading of longer-dated issues was choppy on light volume as bond dealers and investors adjusted their portfolios to make room for this week's $66 billion in coupon-bearing supply.

Longer-dated prices briefly retreated from highs after a private report showed consumer optimism improved to its strongest in five years, reducing anxiety about a U.S. economic slowdown.

Spain on Friday said a European bond-buying plan was fully ready for use and that there was absolutely no political resistance from within the euro zone to a Spanish bailout request.

U.S. households felt better about the economy and their own finances, according to the Thomson Reuters/University of Michigan preliminary October reading on consumer sentiment. The index rose to 83.1, up from 78.3 the month before, marking the highest level since September 2007.

Some economists attributed the improvement in consumers' mood in part to recent upbeat housing news. If this continues, it could bode favorably for stocks and risky assets and cause some investors to scale back holdings in Treasuries, investors said.

"I'm getting more positive about housing, which had been negative on the economy," said Wilmer Stith, who help manages the $300 million Wilmington Broad Market Bond Fund in Baltimore

.

On the supply front, the Fed bought $1.889 billion in Treasuries due in February 2036 to August 2042 under its Operation Twist. The program involves selling shorter-dated Treasuries and buying longer-dated issues to try to hold down mortgage rates and other long-term borrowing costs to stimulate the economy.

(Editing by Theodore d'Afflisio)

((luciana.f.lopez@thomsonreuters.com)(+1-646-223-6319, Reuters Messaging: luciana.f.lopez.thomsonreuters.com@reuters.net))

((--------------------- MARKET SNAPSHOT AT 1540 EDT (1940 GMT) -------------------- March T-Bond (+) March 10-Year note (+) Change vs Current Nyk yield Three-month bills 0.1025 (+0.00) 0.104 Six-month bills 0.15 (+0.00) 0.152 Two-year note 99-31/32 (+) 0.266 Five-year note 99-27/32 (-) 0.660 10-year note 99-22/32 (+ 3/32) 1.660 30-year bond 98-10/32 (+ 9/32) 2.834 DOLLAR SWAP SPREADS LAST Change U.S. 2-year dollar swap spread 11.00 (-1.00) U.S. 3-year dollar swap spread 11.00 (unch) U.S. 5-year dollar swap spread 13.25 (+0.50) U.S. 10-year dollar swap spread 5.25 (+1.00)

U.S. 30-year dollar swap spread -22.75 (+0.75)))

Keywords: MARKETS USA BONDS/

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