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Bond prices were higher on Tuesday after a new sale of five-year notes saw solid demand, and the U.S. yield curve flattened to five-year lows ahead of a busy data calendar and Federal Reserve meeting statement.
Tuesday's price gains paused briefly as the Treasury sold $35 billion of five-year notes, the second sale of a total of $93 billion in new coupon-bearing supply this week. They resumed after the auction saw solid demand.
Direct bidders bought the largest share at a five-year auction since December 2012, and primary dealers took the smallest allocation for a five-year sale on record.
rose 1/32 in price after the announcement.
Benchmark 10-year Treasury notes—used to calculate mortgage rates and other consumer loans—gained 7/32 in price to yield 2.46 percent. Meanwhile, 30-year bonds rose 20/32 in price to yield 3.22 percent, its lowest level in a year.
Long-dated Treasurys have been gaining against short- and intermediate-dated debt as investors reach for higher yields at the long end, and worry about the Federal Reserve potentially raising interest rates next year.
The yield spread between U.S. five-year notes and 30-year bonds flattened to its lowest level since 2009 on Tuesday at 153 basis points.
"The theme has really been the flattening," said Justin Lederer, an interest rate strategist at Cantor Fitzgerald in New York. "Short and intermediates are starting to price in the Fed ultimately going as we get closer and closer, and the long end is seeing some very good duration buying," Lederer said.
Fed officials could make subtle yet telling changes to their policy statement on Wednesday, as they buy more time to evaluate U.S. economic strength and plan how and when to eventually raise interest rates.
The meeting coincides with a busy day for economic releases that will include a private employment report ahead of Friday's highly anticipated jobs data for July and gross domestic product data for the second quarter. GDP is also expected to be revised for the first quarter, when growth unexpectedly receded.
The Treasury will sell $29 billion in seven-year notes on Wednesday in addition to $15 billion in two-year floating-rate notes. Treasurys were also supported by German, Italian and Spanish government debt yields all hitting record lows on Tuesday, as well as from month-end buying.
Ten-year German government bond yields, the benchmark for euro zone borrowing costs, hit lows of 1.12 percent as the prospect of a fresh round of long-term loans to banks from the European Central Bank from September supported euro zone debt.
"It starts with bunds, as they compress through 1.15 percent (yields) it makes more sense to get a little more carry in some of the other sovereigns," said Jim Vogel, an interest rate strategist at FTN Financial in Memphis Tennessee.
—By Reuters with CNBC.com