TREASURIES-Bonds rise as market adjusts to Fed policy outlook
* Fed seen retaining monetary ease, focus on data
* Fiscal retrenchment, low inflation also concern Fed
* Treasury to sell $97 bln in 2-, 5-, and 7-year debt
By Ellen Freilich
NEW YORK, Sept 20 (Reuters) - U.S. Treasuries prices rose on Friday as investors adjusted to the idea that the Federal Reserve was unlikely to tighten monetary policy until the economy looked more robust.
A modest pullback in stocks also supported safe-haven U.S. debt. Bonds edged higher after a brief period of volatility that ensued immediately after the Fed decided on Wednesday against trimming its large-scale asset purchases, confounding market expectations of a reduction.
Treasuries rallied on that news on Wednesday and some profit-taking on that rally followed on Thursday. Prices headed higher again on Friday though gains were modest.
"The Fed is telling people rates don't need to move higher until the economy has time to prove itself. Whether that's at the end of this year or next year remains to be seen," said Jonathan Mackay, executive director and senior fixed income strategist at Morgan Stanley Wealth Management in New York.
Mackay said he expected the 10-year yield to remain at the lower end of a 2.5 percent to 3.25 percent range, near 2.70 percent to 2.90 percent, until yearend.
Barclays interest-rate strategists led by Rajiv Setia said they had revised their year-end forecast for the 10-year Treasury yield "in light of dovish signals about the pace of policy normalization conveyed by the Fed this week."
The Barclays strategists said the Fed's later projection of the interest-rate hiking cycle, coupled with its more gradual pace, translated to a 25 basis point reduction in their 10-year yield forecast. Barclays now expects 10-year yields to end the year at 2.85 percent, below an earlier forecast of 3.1 percent.
The Fed, citing strains in the economy from tight fiscal policy and higher mortgage rates, decided against the tapering of asset purchases that investors had all but priced into stock and bond markets. Fewer asset purchases would put downward pressure on bond prices and upward pressure on yields.
"The Fed is concerned about the recent rise in real rates and its impact on economic growth, the impact of a potential tapering of bond purchases on deflation, and the fiscal debates and the debt limit discussions that could shut the government down if they are not resolved early enough," said Jennifer Vail, head of fixed-income research for U.S. Bank Wealth Management in Portland, Oregon.
"Given those concerns, we expect the Fed will announce a reduction in bond purchases in December," she said.
The Fedederal Reserve Bank of New York bought $1.470 billion in Treasury coupons on Friday as part of its $85 billion per month in purchases of Treasuries and mortgage-backed securities.
For now, Vail said she expected 10-year yields to trade in a range with 2.75 percent being the middle of the range.
On Friday, benchmark 10-year notes rose 8/32 in price as their yields eased to 2.73 percent from 2.76 percent late on Thursday.
Five-year notes rose 3/32 in price as their yields eased to 1.48 percent from 1.50 percent on Thursday.
Thirty -year bonds climbed 24/32 as their yields eased to 3.77 percent from 3.81 percent late on Thursday.
Investors also contemplated whether concern by Fed members over still-low inflation may have been a determining factor behind Wednesday's decision to continue its stimulus.
St. Louis President James Bullard said in an interview on Bloomberg TV that the Fed could scale back its purchases at its October policy meeting if data pointed to a stronger economy.
But Bullard also noted that rates had already gone "up a lot over the summer." He said that for many on the Fed's monetary policy committee, "that was a surprise."
Bullard said, too, that the Fed also needed to focus on the inflation half of its dual mandate, which also cites employment.
Price pressures have been low in the United States, a potential complication for the Fed as it seeks to exit its crisis-era extraordinary measures.
Very low inflation concerns policymakers because it raises the possibility that an economic shock could tip prices and wages into a downward spiral known as deflation.
The Treasury will sell $97 billion in new two-year, five-year and seven-year debt next week.
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