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TREASURIES-U.S. yield curve flattens ahead of Fed policy decision

By Gertrude Chavez-Dreyfuss NEW YORK, Jan 25 (Reuters) - The U.S. Treasury yield curve flattened on Tuesday ahead of a pivotal Federal Reserve policy statement that is widely expected to signal the first interest rate increase since the start of the coronavirus pandemic nearly two years ago. The spread between U.S. 2-year and 10-year yields narrowed to 74.7 basis points. Another yield curve measure showed a gap of 55.30 basis points between the U.S. 5-year and 30-year yields, down from 56.40 basis points on Monday. A flatter curve suggested that investors are bracing for rate hikes that should push short-term rates higher. "There's a little bit of safety going on in the Treasury market. There's also a bit of not wanting to take too much of a position ahead of the Fed, although nobody really expects them to do much," said Ellis Phifer, managing director, fixed income research, at Raymond James in Memphis, Tennessee. The Fed starts its two-day meeting on Tuesday. The big question for investors would be the Fed's strategy and time frame on shrinking its balance sheet. Fed funds futures have fully priced in a quarter-point tightening for the March meeting, plus three more for 2022. U.S. stock markets were once again in freefall on Tuesday, after a late session bounce on Monday. Tuesday's stocks sell-off, however, had limited impact on the Treasury market as investors buckled down to what the Fed may potentially say on Wednesday at the conclusion of the meeting. Some market participants suggested that given the volatility in U.S. equities, the Fed could potentially pull back from its hawkishness evident after the December meeting and the minutes of that gathering released earlier this month. "I think the Fed wouldn't mind some declines in the stock market as they've had them before," Raymond James' Phifer said. "But if they start feeling some pressure, they may start backing off a little bit. The Fed has jawboned a lot, and it has worked. They could back off jawboning a little bit and say things are moving in the direction that we expected them to be," he added. In late morning trading, the benchmark U.S. 10-year yield rose nearly 2 basis points to 1.7512%. U.S. 30-year yields were up roughly 1 basis point at 2.0935% . On the shorter-end of the curve, U.S. Treasury 2-year and 5-year yields rose to 1.0016% and 1.5374%, respectively. Both maturities reflect the market's interest rate expectations. The market is also looking to the Treasury's auction of $55 billion in U.S. 5-year notes. In the U.S. high-yield market, the ICE BofA U.S. high-yield index showed credit spreads widening to 344 basis points , the widest since early December, and suggests increasing nervousness ahead of the Fed statement and press briefing on Wednesday. January 25 Tuesday 10:37AM New York / 1537 GMT Price Current Net Yield % Change (bps) Three-month bills 0.19 0.1927 0.000 Six-month bills 0.375 0.3809 0.000 Two-year note 99-195/256 0.9956 0.009 Three-year note 99-168/256 1.2432 0.011 Five-year note 98-172/256 1.5308 0.017 Seven-year note 97-238/256 1.6929 0.011 10-year note 96-176/256 1.7441 0.009 20-year bond 97-152/256 2.1498 0.003 30-year bond 95-80/256 2.087 0.002 DOLLAR SWAP SPREADS Last (bps) Net Change (bps) U.S. 2-year dollar swap 14.00 -3.25 spread U.S. 3-year dollar swap 13.50 -0.25 spread U.S. 5-year dollar swap 6.75 -1.00 spread U.S. 10-year dollar swap 4.75 -1.00 spread U.S. 30-year dollar swap -19.00 -0.50 spread (Reporting by Gertrude Chavez-Dreyfuss Editing by Marguerita Choy)