By Wes Goodman Dec. 8 (Bloomberg) -- Treasuries were little changed after yesterday’s gain, as the U.S. prepared to sell a record-tying $40 billion of three-year notes today. The U.S. is also scheduled to auction $21 billion of 10- year notes tomorrow and $13 billion of 30-year bonds on Dec. 10 as President Barack Obama borrows unprecedented amounts to fund plans to spur economic growth. The three-year notes being sold today yielded 1.30 percent in pre-auction trading, versus 1.404 percent at the previous sale on Nov. 9, raising speculation investors will demand higher rates before they buy. “Yields will rise a bit more,” said Kei Katayama, who oversees $1.6 billion of non-yen debt in Tokyo as leader of the foreign fixed-income group at Daiwa SB Investments Ltd., part of Japan’s second-biggest investment bank. “The market is normalizing” after investors rushed to the relative safety of Treasuries last week when Dubai World sought to delay some of its debt payments. Ten-year notes yielded 3.42 percent as of 12:43 p.m. in Tokyo, according to data compiled by Bloomberg. The 3.375 percent security maturing in November 2019 traded at 99 19/32. The 10-year yield will advance to 3.79 percent by the middle of next year, according to a Bloomberg survey of banks and securities companies with the most recent forecasts given the heaviest weightings. Katayama says it may be as high as 4 percent by the start of 2010. Bernanke ‘Headwinds’ Treasuries rose yesterday, with two-year notes gaining the most in five weeks, as Federal Reserve Chairman Ben S. Bernanke said the U.S. economy faces “significant headwinds” and inflation “could move lower.” Bernanke also said “credit remains tight” and the job market “remains weak.” New York Fed Bank President William Dudley said yesterday that economic growth will probably weaken slightly in 2010 from the second half of this year, and a “subdued” expansion would make it appropriate to keep interest rates near zero. The central bank cut its target rate for overnight lending between banks to a range of zero to 0.25 percent in December of last year. Two-year yields were little changed at 0.75 percent. They fell to 0.61 percent on Nov. 27, one basis point above the record low, as Dubai World’s decision to stall debt payments sparked a flight to safety. The state-owned company is seeking to renegotiate $26 billion of debt. At the previous three-year sale, investors bid for 3.33 times the amount of debt on offer, the most since at least 1993. Indirect Bidders Indirect bidders, the category of investors that includes foreign central banks, purchased 68.5 percent of the notes, versus an average of 49.3 for the prior 10 sales. “The market has backed off from extreme low levels over the last two weeks and that may provide a discount going into supply,” said Chris Ahrens, head of interest-rate strategy in Stamford, Connecticut at UBS Securities LLC. “The question is, will the central banks show up to buy Treasuries again?” The company is one of the 18 primary dealers that are required to bid at the government’s debt sales. Three-year notes have returned almost 2 percent in 2009, versus a 2.1 percent loss for the entire Treasury market, according to indexes compiled by Bank of America Corp.’s Merrill Lynch unit. The Fed comments weren’t enough to get traders to drop bets that policy makers will raise borrowing costs next year. Futures contracts on the Chicago Board of Trade show traders are assigning zero percent odds to the central bank keeping its rate at the current level though 2010. ‘Creep Up’ “As you get into the spring, you’re going to see longer- term Treasury rates start to creep up,” said Stuart Hoffman, chief economist at PNC Financial Services Group in Pittsburgh, in an interview yesterday. “You will see some economic growth, not only in the U.S. but around the world. By spring, the market will be building in a Fed rate hike.” The end of the Fed’s Treasury purchases means it won’t be able to help absorb the new supply, Hoffman said. The Federal Reserve bought $300 billion of Treasuries from March through October to try to cap consumer borrowing costs. U.S. marketable debt climbed to a record $7.17 trillion in November, government figures show. Ten-year yields may increase to 4 percent next year, Hoffman said. The U.S. economy will grow 3 percent in the fourth quarter and 2.6 percent in the first three months of 2010, a Bloomberg survey of banks and securities companies shows. The difference between two- and 10-year rates widened to 2.67 percentage points yesterday, the most in four months, based on closing levels. Shorter maturities are more influenced by what the Fed does with borrowing costs, while longer-term bonds tend to move on the outlook for inflation. The spread between rates on 10-year notes and Treasury Inflation Protected Securities, or TIPS, which reflects the outlook among traders for consumer prices, widened to 2.17 percentage points from almost zero at the close of 2008. To contact the reporter on this story: Wes Goodman in Singapore at wgoodman@bloomberg.net.

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