U.S. government bond prices rose for a second session on Friday, pushing yields to one-month lows as falling energy prices and a slowing economy reduced fears of inflation.
A Reuters/University of Michigan survey showed the reprieve in gasoline costs had already tempered one-year inflation expectations down to 4.8 percent in early August from 5.1 percent in July, the biggest drop in two years.
Federal Reserve officials place enormous emphasis on expectations, and this decline took some pressure off the central bank to raise interest rates in the face of hefty recent price increases.
"Bond investors believe the worldwide commodity price boom is at an end as the prospects for growth outside the U.S. start to dim," said Chris Rupkey, chief financial economist at Bank of Tokyo/Mitsubishi. "If the economy is weakening, then bonds are always the place to be and investors are jumping into the bond market with both feet today."
Reinvestment of large Treasury coupon payments issued in conjunction with today's settlement of last week's quarterly refunding Treasury auctions contributed to the firm tone in Treasurys, traders said.
As oil prices retreated further, ten-year Treasury notes rallied 14/32 for a yield of 3.85 percent, down five basis points and the lowest since mid-July. Two-year notes rose 3/32 to yield 2.40 percent.
The news was not all bad on the economic front, particularly in manufacturing. U.S. industrial output unexpectedly grew 0.2 percent in July, while the New York Fed's regional factory survey showed an expected uptick.
These modest improvements, coupled with weakening performance in major European economies, had boosted the U.S. currency to a six-month high against the euro, further enhancing the allure of dollar-denominated assets.
A smaller-than-expected rise in consumer confidence in early August was also bullish for Treasurys, underscoring potential restraints on consumer spending, which plays a large role in U.S. economic growth.
Geopolitical developments aided the safe-haven bid in bonds. President Bush accused Russia of "bullying" Georgia, and Germany criticized Moscow for invading its neighbor. Russian President Dmitry Medvedev said a deal between the United States and Poland to install an anti-missile system in Poland was a threat to Russia.