TREASURIES-US yields rise after Japan earthquake, ahead of Fed meeting

By Chuck Mikolajczak

NEW YORK, Dec 8 (Reuters) - Benchmark U.S. 10-year Treasury yields rose on Monday, with yields picking up steam to the upside, after a powerful earthquake hit Japan and as investors were preparing for the Federal Reserve's next policy announcement.

A magnitude 7.6 earthquake shook Japan's northeast region, prompting tsunami warnings and orders for residents to evacuate.

The Bank of Japan has been under pressure to hike interest rates to combat inflation and attempt to stoke economic growth, and was expected to proceed with an increase in borrowing costs at its policy meeting next week.

"This is coming from a government that already seems to be looking for ways to try to promote economic growth, the earthquake, in my view, would be somewhat inflationary, which is the issue that they've been trying to control," said Jim Barnes, director of fixed income at Bryn Mawr Trust in Berwyn, Pennsylvania.

"Knowing that an earthquake occurs, that's just going to fan that same concern."

FED EXPECTED TO CUT INTEREST RATES

The yield on the benchmark U.S. 10-year Treasury note US10YT=TWEB rose 4.9 basis points to 4.188% after reaching 4.19%, its highest level since September 26 and was on track for a third straight session of gains.

The yield on the 30-year bond US30YT=TWEB rose 3.8 basis points to 4.833%, its highest level since September 5.

Market participants were also awaiting a U.S. central bank policy decision on Wednesday.

Expectations that the Fed will cut its policy rate by 25 basis points stand at 87.4%, according to CME Group's FedWatch Tool. Markets were pricing in less than a 30% chance of a cut until comments from Fed officials in recent weeks spurred a reversal in expectations.

"We anticipate that the rate cut will take place, but there seems to be disagreement within the Fed regarding both the current economic outlook and the appropriate pace of future easing. The market could be reacting to thinking that there's the potential for too much easing, which would reaccelerate inflation," said JoAnne Bianco, partner and senior investment strategist at BondBloxx Investment Management in Chicago.

A closely watched part of the U.S. Treasury yield curve measuring the gap between yields on two- and 10-year Treasury notes US2US10=TWEB, seen as an indicator of economic expectations, was at a positive 58.0 basis points.

More supply will come to the market this week as Treasury auctions $58 billion in three-year notes US3YT=RR on Monday, $39 billion in 10-year notes on Tuesday and $22 billion in 30-year bonds on Thursday.

The two-year US2YT=TWEB U.S. Treasury yield, which typically moves in step with Fed interest rate expectations, rose 4.2 basis points to 3.606% after climbing to 3.61%, its highest level since November 20.

The breakeven rate on five-year U.S. Treasury Inflation-Protected Securities (TIPS) US5YTIP=TWEB was last at 2.352% after closing at 2.342% on Friday.

The 10-year TIPS breakeven rate US10YTIP=TWEB was last at 2.278%, indicating the market sees inflation averaging about 2.3% a year for the next decade.