Treasuries Close Lower on Rate Concerns

NEW YORK — Treasury prices closed lower Wednesday after data showing growth in the service sector helped build a case that recent housing and credit market ailments did not infect the broader economy.

The fixed-income market is on alert this month for clues about whether the economy has softened and therefore whether the Federal Reserve is likely to cut rates at its Oct. 30-31 meeting.

The market seemed to think that a weaker economy and a rate cut were less likely after the Institute for Supply Management's non-manufacturing industries survey Tuesday. The report's index fell to 54.8 percent in September from 55.8 in August, but all readings above 50 point to expansion. The report also showed rising employment and accelerating inflation, two factors that could also argue against a rate cut.

"It is hard to say the economy is going into recession when the numbers are this strong,"said David Summers, managing director of YieldQuest Advisors LLC.

The benchmark 10-year Treasury note fell 10/32 to 101 20/32 with a 4.54 percent yield, up from 4.52 percent at Tuesday's close. Prices and yields move in opposite directions.

The 30-year long bond dropped 8/32 to 103 12/32 with a yield of 4.79 percent, up from 4.77 at Tuesday's close.

The 2-year note fell 2/32 to 100 with a 4.00 percent yield, up from 3.97 percent late Tuesday.

The yield on the 3-month Treasury bill dipped to 3.95 percent from 3.96 percent Tuesday, and the discount rate rose to 3.85 percent from 3.55 percent.

There is confusion in the Treasury market whether the continuing housing crisis and the hobbling of the credit market last summer damaged the broader economy or were contained events.

Investors' main concern this week is whether Friday's monthly employment report from the Labor Department will give the Fed a mandate to drop rates. "Sometimes things get over-hyped, but this time it is fair to say that the report is all important," Summers said.

The Fed weighs jobs creation carefully in setting rates. The central bank's decision to cut the federal funds rate by a half percentage point last month followed jolting news that the economy gave up 4,000 jobs in August.

If the September report shows a gain of about 100,000 jobs, as some economists expect, investors are likely to conclude the economy is not weak enough for the Fed to make more cuts, said Tom di Galoma, head of Treasurys trading at Jefferies & Co.

However, investors are hesitant to declare the economy is sound too quickly. Earlier in the year many people misjudged the severity of the housing downturn and the impact that souring mortgage assets would have on the capital markets. This has made market participants slower to draw conclusions.

There also is a tug-of-war in the fixed-income market as to whether a rate reduction would do more harm than good. More rate cuts would boost liquidity in the bond market, but also would cause investors to worry that cheaper money will stimulate inflation, which the bond market detests.

YieldQuest's Summers said he thinks investors who expect another half percentage point rate reduction are too aggressive and that the Fed most likely will pass or put in a quarter percentage point cut.

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