Treasurys Rally on Escalating Bank, Economy Fears

U.S. Treasury debt prices rallied Tuesday as investors scrambled for safer havens following rating agency warnings about banks with exposure to eastern Europe, and due to new signs of a deteriorating global economy.

Adding to deep-seated fears about the banking system, Moody's Investors Service said the recession in emerging European economies would pressure the ratings of banks there and their western parents. Bond analysts also cited worries about data showing a sharp shrinking in Japan's economy and a drop of about 3 percent in U.S. stocks among the factors stoking the Treasury market rally.

"Treasurys are still the place that people want to be in times of uncertainty. It's a really dire economy. There is a wall of bad news out there and Treasurys are the beneficiary,'' said Doug Bender, managing director with McQueen, Ball & Associates in Bethlehem, Pennsylvania.

The U.S. 30-year Treasury bond gained three full points in price, on track for its strongest daily performance in two months due to the intense safe-haven bid into government securities.

The benchmark 10-year note's yield, which moves inversely to its price, fell briefly below 2.66 percent to the lowest level since late January although it was still up from a five decade low of 2.04 percent seen on Dec. 18.

In the stock market, the S&P 500 index dropped below the 800 level for the first time since the bear market low of Nov. 21, weighed by financials and energy stocks. Surprisingly weak U.S. regional manufacturing data accelerated the drop.

Regarding governments' efforts to stabilize the financial system and economy, "people realize that this is a trial and error situation,'' Bender added.

Also, over the near term, the absence of additional supply via auctions in notes and bonds this week was giving the Treasury market a reprieve, with some bond analysts calling for the 10-year Treasury note's yield to fall to around 2.60 percent.

The 10-year yield, which moves inversely to its price, fell from a recent high just above 3.05 percent on Feb. 9, to 2.67 percent, with its price up about two full points.

"Another ugly session in stocks on more concerns about the European banking sector is sending Treasurys prices sharply higher and then we are coming off of a very poor Japanese gross domestic product number on Monday,'' said Kim Rupert, managing director of global fixed income analysis with Action Economics in San Francisco.

A report on Monday showed that on an annualized basis, Japan's GDP fell 12 percent in the final three months of 2008.

Earlier, U.S. government debt prices held steady at steeply higher levels after asset flows data from the Treasury Department showed net foreign purchases of $14.98 billion in December, reversing from net sales in November.

Longer term, bond investors are becoming increasingly anxious about a $2 trillion U.S. government debt issuance expected this year, which could swamp the nearly $6 trillion of Treasurys outstanding.

Fixed-income and currency analysts are watching closely for any signs of flagging demand from foreign investors, who hold roughly half the U.S. government debt market. They continued to buy during last week's record $67 billion of note and bond auctions.

The 2-year Treasury note's price rose 6/32 for a yield of 0.88 percent, versus 0.97 percent late Friday. U.S. bond markets were closed on Monday for the Presidents Day public holiday.

The 30-year Treasury bond gained more than three full points in price for a yield of 3.49 percent, versus 3.68 percent late Friday.

Treasurys extended gains after a report from the New York Federal Reserve early on Tuesday showed that manufacturing production in New York State in February fell to the lowest since the survey was launched in 2001.

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