UPDATE 2-U.S. Treasury bills rally, credit fears return
NEW YORK, Aug 20 (Reuters) - U.S. Treasury bills rallied on Monday, with the three-month yield posting its biggest one-day drop since the stock market crash of 1987, as investors sought shelter in the safest of government securities.
Professional investors who manage portfolios ranging from plain-vanilla money market funds to high-risk portfolios with exotic strategies, dumped risky assets and socked money into ultra short-dated U.S. government securities, analysts said.
"It's very abrupt and disorienting," said Lou Crandall, chief economist at Wrightson ICAP in New York.
After being in record territory for most of the day, the three-month T-bill US3MT=RR yield ended at 3.27 percent, down 44 basis points from late Friday. Earlier, it fell 126 basis points, doubling its largest one-day decline in October 1987, according to Reuters data.
The volatility in the T-bill market contributed to Wall Street stocks falling and then rising at the end of the session when bills came off their lowest yields of the day. The flight to bills also helped Treasury bond prices to rise.
Worries about subprime spillover resurfaced despite the Federal Reserve's move on Friday to ease loan terms for banks in a move to curb a full-blown liquidity crisis.
Traders fear more problems in the U.S. mortgage industry and only modest improvement in the commercial paper market, a critical source for short-term business funding.
"There's still a lot of credit issues still lurking in the financial system," said Alex Roever, short-term fixed-income strategist at J.P. Morgan Securities in Chicago.
The one-month T-bill yield US1MT=RR finished at 2.55 percent, down 43 basis points versus late Friday, after falling as low as 1.28 percent.
The six-month T-bill yield US6MT=RR was at 4.08 percent, down 13 basis points versus late Friday, after hitting an intraday low of 3.62 percent.
The recent surge in T-bill demand in part led the U.S. Treasury to enlarge Tuesday's offering of one-month bills to $32 billion from last week's $27 billion auction.
While overall T-bill demand was robust, Monday's Treasury auctions of $21 billion in three-month T-bills and $17 billion six-month bills fared poorly, according to research firm Ried Thunberg.
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The Fed's discount rate move has improved trading flows of commercial paper -- more paper is being sold -- but it has not lowered the unusually high interest rates that investors are demanding from issuers for holding such paper, analysts said.
The asset-backed sector, a key finance source for subprime lenders, remained a trouble spot. The interest rate on U.S. asset-backed commercial paper maturing in one day was quoted at 6.05 percent to 6.25 percent on Monday. Continued...
