TREASURIES-T-notes dip as investors put Italy worries on ice

LONDON, March 5 Tue Mar 5, 2013 6:27am EST

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LONDON, March 5 (Reuters) - U.S. debt prices dipped on Tuesday, weighed down by some modest risk-taking in European trading despite Italy's political crisis, and with investors betting on strong U.S. data later in the week.

Treasury futures fell 9/64 to 131-31/64, taking 10-year bond yields 1.6 basis points higher to 1.89 percent - towards the top of the range in place since Italian elections a week ago sparked a rally in low-risk U.S. debt.

Since then, market sentiment has stabilised and while Italy still looks set for prolonged political deadlock, investors have been cautiously returning to riskier asset classes.

Despite the United States also facing automatic spending cuts that could limit growth, comments supporting loose central bank policy from the Federal Reserve overshadowed both these concerns and helped to boost equity markets.

"Markets seem to have acknowledged that the other main driver, i.e. political uncertainty in Italy, faces a number of technical steps before coming back to prominence," Lloyds Bank strategists said in a note.

Traders also cited heavy selling in five-year bonds as investors closed out profitable relative-value trades that had taken advantage of a short-term distortion in the steepness of the U.S. yield curve.

Yields were seen more likely to test the top of the 1.91 to 1.83 range that has contained the last six trading session than the bottom going into Friday's U.S. non-farm payrolls report.

"I don't know what the catalyst could be to move this market lower in yields before non-farms. Everyone's expecting non-farms to be much better," a trader said.

"The contrarian in you would say use that to go long, but the risk is that the number does come in significantly higher."

Wednesday's ADP employment report could produce a bump in the road between now and Friday if it curbs the market's expectation for a strong payrolls figure. But, market participants said the patchy correlation between the two data sets would reduce the impact on Treasury prices.

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