December 26, 2008 / 4:48 PM / 9 years ago

Bonds set for best year in over a decade

4 Min Read

NEW YORK (Reuters) - U.S. Treasuries will likely finish out the year next week with their best annual performance since 1995 as the deepening U.S. recession maintains the bid for lower-risk government debt.

The market has already priced in a deflationary scenario akin to Japan's "lost decade" of economic growth, most analysts agree.

Through December 19, the Barclays Capital U.S. Treasury Index was up 14.96 percent year-to-date, a meteoric return compared with a decline in the U.S. Standard & Poor's 500 stock index .SPX of about 40 percent, and a loss in U.S. investment grade corporate bonds of about 7.4 percent.

The total return of the 30-year bond year-to-date is nearly 45 percent, putting the long bond on course for its best year since 1982, according to Barclays Capital. It was in 1982 that Paul Volcker, then chairman of the Federal Reserve, had started to win his battle against inflation, igniting a huge bond market rally.

The benchmark 10-year Treasury note began 2008 with a yield of 4.03 percent, and has since shed nearly half of that, trading almost 200 basis points lower at 2.17 percent. Earlier this month the benchmark yield reached as low as 2.04 percent, its lowest level in over five decades.

"It has been an incredible year, safe-haven demand has been the dominant news story in terms of Treasuries," said Kim Rupert, managing director of global fixed income analysis at Action Economics in San Francisco.

The Fed's target rate for overnight lending between banks at the beginning of the year was 4.25 percent, but the central bank has since knocked it down to a range of zero to 0.25 percent.

"There has been a continued flight-to-quality bid," said David Coard, head of fixed-income sales and trading at The Williams Capital Group in New York, adding, "There is still unease, and Treasuries always benefit from that."

"When you couple that with what many people believe will be one of the more severe recessions we have had in years, that usually results in a good bid for Treasuries," Coard said.

While the calendar of economic data is relatively light in holiday-shortened trade next week, some items will engage the market's interest.

On Tuesday, the Conference Board will release its December consumer confidence index, forecast to read 45.0 versus 44.9 in November, according to a Reuters poll of economists.

Also, the Chicago purchasing managers will release an up-to-date reading on the manufacturing sector in the Chicago region, a report typically seen as a prelude to the nationwide Institute for Supply Management manufacturing index to be released later in the week.

The weekly jobless claims count from the U.S. Labor Department will be released a day early on Wednesday, due to the New Year's Day holiday on Thursday.

On Friday, the first trading day of the new year, will be the Institute for Supply Management's December manufacturing index, expected to show another depressed reading of 35.5, a little weaker than November's reading of 36.2. A reading above 50 points to expansion; a reading below 50 reflects contraction.

Additional reporting by Ellen Freilich and John Parry; Editing by Leslie Adler

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