TREASURIES-U.S. bonds rise, eyes on budget talks

NEW YORK Wed Dec 19, 2012 10:15am EST

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NEW YORK Dec 19 (Reuters) - U.S. Treasuries rose on Wednesday after a larger-than-expected decline in housing starts and no sign of further progress toward averting a $600 billion crunch of U.S. tax increases and spending cuts before year-end.

"Bond prices are firmer. There was a larger than expected drop in housing starts, weaker applications for mortgages, and there's no forward progress in the equity market," said Ian Lyngen, senior government bond strategist at CRT Capital in Stamford, Connecticut.

Gathering momentum in negotiations to avert the so-called fiscal cliff triggered a fall in Treasuries earlier this week, as signs of compromise from Republicans and Democrats fueled optimism that a deal would be struck before a Dec. 31 deadline.

On Wall Street, stocks opened slightly higher, but then fell into negative territory.{.N]

The Mortgage Bankers Association said applications for U.S. home mortgages fell to their lowest level since early November last week while the U.S. Commerce Department said groundbreaking for new housing units fell 3 percent to a seasonally adjusted, annualized 861,000-unit pace.

Benchmark 10-year Treasury notes rose 5/32, their yields easing to 1.80 percent from 1.82 percent late on Tuesday.

Market opinions shifted to one of concern for the budget talks in Washington, and one trader said optimism about House Republicans coming together with Obama to avoid the fiscal cliff was "deteriorating a little bit, and that's helped bond prices."

But markets have not given up on the notion of resolution this year or early next, said Stephen Wood, chief market strategist with Russell Investments in New York.

"Is there a grand compromise? No. But (President Barack) Obama is moving. (House Speaker John)Boehner is moving. Financial markets will be choppy," he said.

From an economic standpoint, the United States is "certainly doing better than other parts of the world" and thus continues to enjoy a safe-haven premium, Woods said.

"Washington is driving a lot of pricing," he said. "Markets want an answer to the fiscal question in 2013 and beyond."

Strategists said 10-year Treasury notes found support at the 1.80 percent yield level which attracted buying.

Supply of U.S. debt also kept a lid on gains. The Treasury will sell $29 billion in seven-year notes later on Wednesday, followed by $14 billion in five-year Treasury Inflation-Protected Securities (TIPS) on Thursday. It sold $35 billion in five-year notes on Tuesday.

Tuesday's five-year note sale drew solid demand, selling at a high yield of 0.769 percent, around half a basis point higher than where the notes traded before the auction.

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