Trade worries hold U.S. yield curve near flattest since 2007

By Richard Leong and James Thorne

NEW YORK (Reuters) - The U.S. yield curve held near its flattest level in over a decade on Monday as investors preferred longer-dated U.S. government debt over short-dated issues on worries that a global trade war would slow inflation and business activity worldwide.

Anxiety about the viability of German Chancellor Angela Merkel's coalition government added safe-haven demand for U.S. and German government bonds, analysts said.

Bond yields bounced back from session lows following solid U.S. data on domestic manufacturing activity in June and construction spending in May.

"We had a risk-off start to the session following the EU's auto tariff remarks over the weekend," said Brian Daingerfield, macro strategist at NatWest Markets in Stamford, Connecticut. "Ten-year Treasuries have rescinded earlier gains and (their yields now sit higher."

The yield on 10-year Treasury notes edged up 1 basis point to 2.862 percent, while the 10-year German Bund yield was 0.5 basis point lower at 0.303 percent, Reuters data showed.

The five-year to 30-year part of the U.S. yield curve stood at 23.8 basis points, 1 basis point flatter than late on Friday. It hit 22.8 basis points on Friday, which was the flattest level since July 2007.

Trading volume was light with the U.S. bond market set to close early at 2 p.m. (1800 GMT) on Tuesday and to stay shut on Wednesday for the U.S. Independence Day holiday.

The European Union has warned the United States that imposing import tariffs on cars and car parts would harm the U.S. automotive industry and likely lead to counter-measures on $294 billion of U.S. exports.

"The idea of auto tariffs against a broad array of countries has really caught the market's attention, in particular its impact on consumers," NatWest's Daingerfield said.

Escalating trade tensions are already being felt in Europe as a gauge of regional factory activity fell to an 18-month low in June.

In addition to the trade row, European politicians are scrambling to address migrant policy. On Sunday, German Interior Minister Horst Seehofer offered to quit and his conservative Christian Social Union party threatened to impose new border controls, casting a shadow over Merkel's coalition.

Growing trade frictions, however, have not hurt domestic manufacturers. U.S. factory activity unexpectedly beat analyst expectations in June, according to the Institute for Supply Management.

Safe-haven demand tied to trade worries, together with signals from the European Central Bank to maintain an easy policy stance, produced positive total return of 0.10 percent for Treasuries in the second quarter. That pared their year-to-date loss to 1.08 percent, according to an index compiled by Bloomberg and Barclays <.BCUSATSY>.

July 2 Monday 2:41PM New York / 1841 GMT

To view a graphic on U.S. bond sector returns , click: https://tmsnrt.rs/2NjEcgP

(Reporting by Richard Leong and James Thorne; Editing by Paul Simao and Richard Chang)

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