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Bonds Fall on Inflation Worries, Stock Strength

Reuters
Wednesday, 19 Sep 2007 | 4:43 PM ET

Long-dated U.S. Treasury bond prices slid Wednesday as investors bet interest rate cuts from the Federal Reserve will stoke inflation despite signs that price increases actually moderated last month.

The Fed slashed the benchmark federal funds rate by a half percentage point on Tuesday, a bigger reduction than many expected.

The cut was welcomed by those who fear the economy is in the grip of a serious downturn, but inflation hawks warned about the dangers of a central bank that lets its guard down against price increases.

Surging oil and gold prices added to such concerns, while gains in the equity markets also lured investors away from government bonds.

The 30-year bond was down nearly 1-1/2 points in price, its yield rising to 4.84%, up 14 basis points in just two days. As losses weighed disproportionately on longer maturities, the yield curve steepened.

"The reshaping of the curve is positioning for potential higher inflation," said Brian Robinson, bond strategist at 4Cast Ltd.

Data published Wednesday showed consumer prices outside food and energy rose 0.2% in August, matching forecasts. This left the year-on-year inflation reading at 2.1%, down slightly from July but still above the cental bank's comfort range.

Against the backdrop of raging commodity costs, bond traders seemed to be gambling on an erosion of value for longer-term securities, pushing 10-year notes down 19/32 in price .

Their yield jumped 7 basis points to 4.54%, the biggest one-day spike since credit conditions began deteriorating more severely.

Housing starts figures showed no relief for the sector that is at the epicenter of both the economy's slippage and the seizing up of credit markets. Ground-breaking on new homes fell 2.6% in August to their lowest level since 1995.

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