*Bonds erase gains amid Republican letter criticizing QE2
*Tame inflation, weak housing data briefly pushed up bonds
*Some investors still look to close out of QE2 positions
(Updates market action, adds fresh quotes)
By Karen Brettell
NEW YORK, Nov 17 (Reuters) - U.S. Treasuries prices slipped on Wednesday in a late sell-off, as uncertainties over the fate of the Federal Reserve’s bond program to help the economy overshadowed economic data that supported the need for it.
Dealers and investors seeking to unwind long positions and clear inventory ahead of new bond auctions slated for next week added to the negative pressure.
Opposition to the Fed’s $600 billion Treasury purchase plan grew with a group of top Republican lawmakers releasing a letter they sent to Fed Chairman Ben Bernanke, criticizing the central bank’s quantitative easing program — dubbed QE2 — for its potential to lower the U.S. dollar and to stoke inflation. See [ID:nWEN3175]
At home and abroad, rising political pressure for the Fed to back away from more monetary stimulus came even as official figures showed the U.S. economy is in need of more help. The housing market remains anemic, while inflation is far too low to maintain consumer confidence, analysts said.
The tension between hard-ball politics and grim economics unnerved some investors who decided to cash in on earlier gains and to get out of bullish bets placed in advance of QE2’s announcement two weeks ago.
The selling from bond bears came in spite of concerns over Ireland’s debt crisis and the fiscal woes of debt-laden U.S. states and cities such as Philadelphia, whose ratings were downgraded by Moody’s Investors Service on Wednesday. [ID:nN17206062]
“There is not a lot of appetite for this asset. Any kind of rally is an opportunity to unload,” said Eric Green, chief of U.S. rates research and strategy at TD Securities in New York.
Treasuries rose earlier in the session on tame inflation and weak housing starts data which supported the Fed’s case for QE2.
October government figures showed a 0.6 percent increase in the year-on-year core inflation rate, which was the smallest on record, and a startling 11 percent drop in housing starts to their lowest in 1-1/2 years. For more see [ID:nN17190977]
The data “definitely leaves the Fed in a better defensive position than they were yesterday, but there’s always going to be criticism...especially with a gridlocked Congress going forward,” said Eric Van Nostrand, interest rate strategist at Credit Suisse in New York.
Chicago Fed President Charles Bullard and Boston Fed chief Eric Rosengren were the latest policy-makers expressing their support for QE2. [ID:nN17222082]
Bonds’ data-related gains evaporated later in the session in the wake of the release of the letter to Bernanke from top Republican lawmakers, who opposed to QE2. This helped renew selling of bonds that were bought ahead of the Fed statement on Nov. 3, to take advantage of what investors thought, wrongly, would be a rally in debt prices.
“A lot of the pressure on the market came from overseas investors who were skeptical about what the Fed was trying to do with QE2 and it didn’t help with the political backlash at home,” said Dominic Konstam, interest rate strategist at Deutsche Bank in New York.
The Treasuries market has gyrated this week. On Monday, the 30-year yield broke a series of technical support levels and jumped to its highest level in six months. A day later, it recorded its biggest one-day drop in nearly six months.
The 30-year bond US30YT=RR last traded down 6/32 to yield 4.28 percent, up from 4.27 percent but below its six-month intraday high of 4.42 percent two days ago.
Benchmark 10-year notes US10YT=RR were down 9/32 with their yields rising to 2.88 percent from 2.86 late on Tuesday.
Still Treasuries have somewhat stabilized, offering some hope that most of the sales tied to the QE2 announcement has subsided. Long-dated Treasuries in the cash and futures markets have retraced roughly a quarter of their recent losses that pushed yields to the highest in at least three months.
“We think the recent sell-off is driven by this positioning move, which is temporary. Our view is that yields are going to grind lower over the remainder of QE2 and the sell-off is going to reverse,” said Credit Suisse’s Van Nostrand.
More volatile trading is likely, as investors who continue to hold long positions seek to exit them before year-end.
“I don’t see some of the strength in Treasuries is all that sustainable,” said Calvin Sullivan, chief fixed-income strategist at Morgan Keegan in Memphis, Tennessee. “The bearish sentiment on Treasuries is still stronger than bullish sentiment.”
Additional reporting by Ellen Freilich and Richard Leong;