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TREASURIES-Yields fall further on moderate inflation outlook, strong economy

    (Adds comment, fresh prices)
    By Herbert Lash
       NEW YORK, Dec 1 (Reuters) - Moderating inflation in October pushed
U.S. Treasury yields down further on Thursday after a strong rally the day
before when Federal Reserve Chairman Jerome Powell said the U.S. central bank
could slow its pace of interest rate hikes in two weeks.
    The market embraced new signs of slowing inflation in a strong economy,
suggesting the Fed's tightening of monetary policy might induce nothing more
than a mild recession.
    Consumer spending increased at its greatest pace since January and the
labor market remained resilient, with the number of Americans filing new
claims for unemployment benefits declining last week, signs of a strong U.S.
    The personal consumption expenditures (PCE) price index showed inflation
moderated, as it rose 0.3% in October, the same as in September, and over the
12 months through October the index increased 6.0% after advancing 6.3% the
prior month.
    Excluding the volatile food and energy components, the PCE price index
rose 0.2%, one-tenth less than expected, after gaining 0.5% in September.
    Yields backed off early declines after poor manufacturing data but later
slid lower. The benchmark 10-year Treasury slid to 10-week lows
and the two-year note, which often indicates interest rate
expectations, fell to early October lows.
    "What the market is looking at is a mosaic of different indicators that
suggest the inflation rate is falling from a very high level," said Peter
Duffy, chief investment officer of credit at Penn Capital Management Co LLC
in Philadelphia.
    "The bond market wants to see the economy cooling," Duffy added. "Demand
for bonds increases when the economy cools so this is probably a big recipe
for people wanting to buy bonds yet are concerned about the economy and they
think the Fed is slowing down. It's a win-win."
    The two-year Treasury yield fell 11.4 basis points to 4.258%, while the
yield on 10-year notes slid 16.2 basis points to 3.539%.
    The yield curve measuring the gap between yields on two- and 10-year
Treasury notes remained inverted and was at -72.0 basis points.
    The inversion, when yields on short-dated debt are higher than
longer-dated debt, indicates a looming recession.
    "The yield curve is way too inverted," said Nancy Davis, portfolio
manager of the Quadratic interest rate volatility and the IVOL inflation
hedge exchange-traded fund.
    "The market believes the Fed is going to continue to hike but they
believe the Fed is going to create a recession, which is consensus at this
point," Davis said.
    Fed funds futures showed the Fed's target rate for lending will peak in
May at 4.866%, down from just over 5% earlier in the week. Futures show a 91%
chance of a 50-basis-point hike at the Fed's policy meeting Dec. 13-14.
    The yield on the 30-year Treasury bond was down 17.1 basis
points to 3.652%.
    The break-even rate on five-year U.S. Treasury Inflation-Protected
Securities (TIPS) was last at 2.495.
    The 10-year TIPS breakeven rate was last at 2.363%,
indicating the market sees inflation averaging about 2.35% a year for the
next decade.
    The U.S. dollar five years forward inflation-linked swap,
seen by some as a better gauge of inflation expectations due to possible
distortions caused by the Fed's quantitative easing, was last at 2.516%.
    Dec. 1 Thursday 1:39 p.m. New York / 1939 GMT
                                               Price        Current   Net
                                                            Yield %   Change
 Three-month bills                             4.21         4.3139    -0.050
 Six-month bills                               4.495        4.6628    -0.048
 Two-year note                                 100-117/256  4.2584    -0.114
 Three-year note                               101-96/256   4.001     -0.133
 Five-year note                                100-216/256  3.6884    -0.140
 Seven-year note                               101-132/256  3.6277    -0.145
 10-year note                                  104-224/256  3.5394    -0.162
 20-year bond                                  102-20/256   3.8497    -0.160
 30-year bond                                  106-80/256   3.6516    -0.171

                                               Last (bps)   Net
 U.S. 2-year dollar swap spread                 33.00         1.50
 U.S. 3-year dollar swap spread                 13.00         1.00
 U.S. 5-year dollar swap spread                  3.75         0.25
 U.S. 10-year dollar swap spread                -4.00         0.25
 U.S. 30-year dollar swap spread               -42.50         2.00

 (Reporting by Herbert Lash; Editing by Arun Koyyur and Will Dunham)

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