For a day, at least, the U.S. pays up a bit to sell bonds

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On the road to borrowing a trillion dollars or more over the next year, the U.S. Treasury is bound to encounter some potholes. It hit a minor one today.

To sell $38 billion in new two-year notes, the government had to offer an annualized yield of 0.92% -- well more than the 0.74% yield that previously issued two-year notes were paying on Friday, and up from the generational low of 0.68% reached on Thursday.

It isn’t that investors suddenly are dumping Treasuries with abandon, after hoarding them for the last 2 1/2 months. One issue is simply the calendar: The government has run into the reality of a thin year-end market, with many investors already having closed their books for 2008, traders say.

Fewer buyers in the market mean Uncle Sam has to pay more than expected on new debt. The Treasury may face the same problem on Tuesday, when it auctions $28 billion in five-year notes. The yield on previously issued five-year notes rose to 1.42% today from 1.36% on Friday.

George Goncalves, chief Treasury bond strategist at Morgan Stanley in New York, figures shorter-term Treasury yields aren’t likely to rebound significantly anytime soon, with the Fed holding its benchmark rate between zero and 0.25%.

What’s more, the Fed has said it may begin buying Treasuries for its own portfolio in 2009. That could put more downward pressure on yields.

Even so, given the speed with which Treasury yields have plunged in the last two months, Goncalves warns that some temporary give-back is inevitable in January -- particularly on longer-term bonds, such as 10-year T-notes. The 10-year yield ended at 2.17% today, up from 2.13% on Friday but down from 4% in mid-October.

His advice to investors: ‘I’d rather wait to buy,’ Goncalves said, looking ahead to more market potholes.

But he added that, as long as many investors are fearful the U.S. is about to relive the ugly Japanese experience with the economy and interest rates, ‘any give-back in yield will be met with more demand’ pretty quickly, at least in the first half of 2009.

-- Tom Petruno