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Bunds fall further as U.S. debt deal seen close

By Marius Zaharia

LONDON, Oct 16 (Reuters) - Safe-haven German Bunds fell on Wednesday, pushing yields to fresh three-week highs, as investors expected U.S. lawmakers to reach a last-minute deal to raise the debt ceiling and avoid a potential default.

After a day of stop-and-go negotiations, Senate leaders were said to be close to agreeing a debt deal that would also reopen the partially shut government. Earlier expectations that a deal could be announced late on Tuesday were not met.

The U.S. government is expected to reach its borrowing limit by Thursday. If a deal is not reached by then, default on government obligations could quickly follow, freezing the U.S. financial sector and threatening the global economy.

Bund futures, which usually find support in times of uncertainty as they are considered low-risk assets, were last 8 ticks lower at 139.16, while cash 10-year German yields hit fresh three-week highs at 1.926 percent.

They moved in line with U.S. 10-year T-notes, which were last up 2 basis points at 2.74 percent.

"People still think they'll get a last-minute deal of some sorts," one trader said, adding that the lack of panicking in the market throughout the budget negotiations meant that the impact of any deal would be limited in time and scope.

"It's been a fairly orderly crisis. If we do get a deal, presumably it's going to be temporary in nature and I don't know if we'll sell off much. This crisis will probably weigh on data so the downside is fairly cushioned."

Some signs of stress were visible in short-dated U.S. securities, however. October T-bill yields traded above 0.50 percent, some 15-20 bps more than two-year yields. Investors would normally ask for a higher premium to hold longer maturities.

The lingering uncertainty in the United States is likely to secure some bids at a sale of up to 5 billion euros of two-year German bonds later on Wednesday, some analysts said.

The main supporting factor for the auction, however, would be a domestic one as investors expect the European Central Bank to keep monetary policy relaxed for a prolonged period.

"The Schatz auction should go well. Expectations regarding ECB policy ... are keeping the short-end anchored," UniCredit rate strategist Luca Cazzulani said.

Other euro zone bonds were also steady.