TREASURIES-U.S. bill rates rise on government default jitters
* Eyes on Washington as shutdown delays payrolls report
* U.S. one-month T-bill rates hover at highest in 10 months
* One-month/three-month rate spread widest since early 2008
* One-year U.S. CDS prices revisit 2011 debt-fight levels
NEW YORK, Oct 4 (Reuters) - Growing worries about a U.S. government default lifted the interest rates on ultra short-term U.S. Treasury bills to their highest levels in more than 10 months on Friday.
As the first partial federal government shutdown in 17 years entered into its fourth day, the Labor Department delayed the release of its closely watched payrolls report, which would have been the premier focus for traders.
Instead, they continued to await for hints the White House and Congress might be coming closer to an agreement to increase the government's $16.7 trillion statutory borrowing limit.
But Democrats and Republicans remained far apart in ending the government shutdown on Friday, let alone a reaching a deal on the debt ceiling.
Traders have prepared for the rising possibility that the Treasury might skip repaying investors and foreign central banks on their U.S. debt holdings if no deal is reached before Oct. 17, when the Treasury expects to hit the borrowing limit.
"The market is expecting a hiccup or a blip in the bills market," said Justin Hoogendoorn, fixed income strategist at BMO Capital Markets in Chicago.
Eighty-five billion dollars worth of Treasury bills will mature on Oct. 17. The interest rate on that T-bill issue last traded at 0.12 percent, up 1 basis point from late on Thursday and up 8 basis points on the week.
"We are seeing some real volatility in the bill sector," said Jason Rogan, managing director of Treasuries trading at Guggenheim Partners in New York. "Bills are showing the first signs of distress."
Growing jitters about delayed payments on short-term government debt, or a technical default, spread to more T-bill issues. An outright default occurs when a borrower does not repay anything its creditors.
Interest rates on T-bills that mature in the first half of November last traded at 0.11 percent, 5 basis points higher than late Thursday and up 9 basis points from a week earlier.
Failure to increase the debt ceiling, traders fear, would unleash market chaos and damage the long-term creditworthiness of the U.S. government and the safehaven status of the dollar.
With little progress shown in Washington on a deal to raise the borrowing cap, the cost to insure a U.S. default in the derivatives market nearly doubled this week, approaching the level last seen in July 2011 during the first debt ceiling showdown between President Barack Obama and top Republican lawmakers.
Investors would pay about 53,760 euros to insure 10 million euros worth of Treasuries for a year on Friday, according to Markit. The premium was as high as 58,000 euros earlier.
A week ago, the cost on one-year U.S. sovereign credit default swap was nearly 29,000 euros.
GLIMMER OF HOPE ON DEAL
While the ongoing government shutdown and the looming debt ceiling deadline have roiled the T-bill sector, longer-dated government securities have held in a tight range, suggesting traders are clinging to hopes of a last-minute deal to avoid a default, analysts and traders.
"Most people in the market still assume something will get done," Rogan said.
The Treasury Department will sell a combined $64 billion in coupon supply and at least $65 billion in bills next week. Unless a ceiling debt deal emerges soon, the prospect for later Treasury debt supply is murky, analysts said.
"People want a decent concession going into next week's auctions," Rogan said.
Benchmark 10-year Treasury notes last traded 10/32 lower in price with a yield of 2.643 percent, up 4 basis points from late on Thursday.
For the week, the 10-year yield bounced in a narrow 9 basis point range from an intraday low of 2.58 percent to a high of 2.67 percent, according to Reuters data.
Interest rates on Treasury bills that mature after mid-November traded in the single digits. Bill rates inverted further this week with the spread on the one-month rate over the three-month rate growing to 11 basis points, a level not seen since early 2008, according to Reuters data.
The credit default swap market also signaled expectations of disruption to the Treasuries market would be brief, not a protracted one that damages long-term investor confidence.
The price on one-year CDS on Treasuries stood 15 basis points above the five-year price, the widest gap since July 2011.
"Clearly the market is giving them time at this point," BMO's Hoogendoorn said.