Treasuries declined, pushing up yields on 10-year notes the mostin more than a week, as Germany signaled it may be open to abailout of Spain, reducing the haven appeal of U.S. governmentdebt.

Yields extended gains after a report showed the cost of livingin the U.S. climbed for a second month in September. The differencebetween yields on 10-year notes and similar-maturity TreasuryInflation Protected Securities, a gauge of expectations forconsumer prices, widened to 2.47 percentage points, above theaverage of 2.17 percentage points since October 2002.

“Folks are a little bit more excited about the prospects forrecovery in Europe,” said David Coard, head of fixed-income tradingin New York at Williams Capital Group, a brokerage forinstitutional investors. “Yields are having something of a yieldrally.”

The benchmark 10-year yield climbed six basis points, or 0.06percentage point, to 1.72 percent at 5 p.m. in New York, accordingto Bloomberg Bond Trader prices. The yield gained the most sinceOct. 5 and has climbed from a record low 1.38 percent on July 25.The 1.625 percent security due in August 2022 fell 1/2, or $5 facevalue, to 99 5/32.

The 10-year term premium, a model created by economists at theFederal Reserve that includes expectations for interest rates,growth and inflation, was negative 0.86 percent, the leastexpensive since Sept. 20. A negative reading indicates investorsare willing to accept yields below what's considered fair value.The average for the past 10 years is 0.44 percent. The all-time lowwas negative 1.02 percent on July 24.

Market Stress

A measure of stress in U.S. credit markets, which falls wheninvestors favor assets such as corporate bonds and rises when theyseek the perceived safety of government securities, reached thelowest level in 19 years.

The U.S. two-year interest-rate swap spread narrowed to as lowas 8.75 basis points in New York, according to data compiled byBloomberg, the least on an intra-day basis since Sept. 27, 1993.

Treasury yields moved higher amid a report Germany is open toSpain seeking a precautionary credit line from Europe's rescuefund, two senior coalition lawmakers said, signaling a reversal ofFinance Minister Wolfgang Schaeuble's public position.

The comments by Michael Meister, a deputy caucus leader ofChancellor Angela Merkel's Christian Democratic bloc, and NorbertBarthle, her party's budget spokesman, indicate a rolling back ofGerman resistance to a full sovereign bailout for Spain. Schaeublecautioned Spain against seeking aid on top of its bank bailout asrecently as last month.

Treasury Bulls

“It shows that Germany is more open to reaching into their ownpockets to help out the peripheral countries in Europe,” said JasonRogan, director of U.S. government trading at Guggenheim PartnersLLC, a New York-based brokerage for institutional investors. “Wehave to see what the details are – - it's difficult for Europe tocome out of this crisis without Germany using some of their ownmoney to correct it.”

Amid the positive news in Europe, investors in Treasuriesremained bullish in the week ending yesterday, betting prices ofthe securities will rise as they cut short positions, according toa survey by JPMorgan Chase & Co.

The proportion of net longs was 16 percentage points, up fromsix percentage points from the previous week, according to thesurvey. The percentage of outright longs rose to 25 percent, from21 percent, while outright shorts dropped to 9 percent from 15percent. Neutrals rose to 66 percent from 64 percent.

Economic Indicators

The Fed purchased $4.743 billion of Treasuries due from November2020 to August 2022 today as part of its Operation Twist program tolower borrowing costs and boosts the economy, according to the FedBank of New York's website.

The consumer-price index increased 0.6percent for a second month, the Labor Department reported today inWashington. Economists surveyed by Bloomberg had forecast a 0.5percent advance. The so-called core measure, which excludes morevolatile food and energy costs, climbed 0.1 percent, less thanprojected.

Another report showed output at factories, mines and utilitiesrose 0.4 percent after a 1.4 percent decline in August that was thebiggest since March 2009, the Fed said in Washington. The medianestimate in a Bloomberg survey of 85 economists called forproduction to rise 0.2 percent. Manufacturing, which makes up 75percent of the total, climbed 0.2 percent.

Volatility, Volume

“I don't think you can get excited about the manufacturingsector,” said Thomas Simons, a government-debt economist in NewYork at Jefferies Group Inc., one of 21 primary dealers that tradeTreasuries with the Fed. “We are still coming off low levels fromAugust.”

Volatility remains below historic levels amid continued Fedpurchases. Volatility reached 64.8 basis points at 4:41 p.m. in NewYork, below this year's average of 72.5 basis points. Bank ofAmerica Merrill Lynch's MOVE index, which measures price swingsbased on options, touched 57.5 basis points on Sept. 19, the leastsince May 7. The average over the past decade is 102.1 basispoints.

Treasury volume reported by ICAP Plc, the largest inter- dealerbroker of U.S. government debt, rose to $256 billion, from $178billion yesterday. It has averaged $242 billion in 2012. It toucheda high this year of $464 billion in September.

The U.S. will sell $7 billion in 30-year Treasury InflationProtected Securities on Oct. 18. At the previous auction of thedebt on June 21, the U.S. sold $7 billion of the securities at arecord low yield of 0.520 percent.

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