Unexpectedly strong manufacturing data in the US and Europe – which sparked fears of interest rate rises – triggered selling of government bonds across the markets on Monday.

Yields on US Treasuries jumped after the Institute for Supply Management survey surprised economists with a September reading of 59.4, well up on August’s 53.6 level.

Analysts interpreted the data as an early indication of the reconstruction spending expected to follow the recent hurricanes Katrina and Rita.

The figures suggest the rebuilding effect is “already the dominant force in the factory sector of the economy”, according to Mike Englund, chief economist at Action Economics.

The “prices paid” component of the ISM index surged, worrying the Treasury markets with its inflationary message – one that could increase the likelihood of further rate hikes from the Federal Reserve. Construction spending data, dating from before the hurricanes, were also solid.

The yield on the 10-year Treasury note increased 5.9 basis points to 4.391 per cent on Monday afternoon in New York. The two-year yield rose to 4.219 per cent, up 4.6bp.

Eurozone government bond prices were depressed in advance of the US release after the region’s own robust manufacturing data.

While it is widely expected that the European Central Bank will keep rates steady at 2 per cent this week, Julien Seetharamdoo, international economist at Capital Economics, said the survey showed the eurozone recovery “gathering momentum”. He added that “interest rates will be rising by mid-2006”.

In late afternoon trading in London, the two-year Schatz yield was up 1.1bp to 2.404 per cent and the 10-year Bund yield gained 3.7bp to 3.190 per cent.

A similar survey, indicating that UK manufacturing activity grew at its fastest pace in six months in September, put pressure on gilts.

Although it came after a series of weak economic data in recent weeks, the two-year gilt yield was up 0.7bp at 4.191 per cent and the 10-year gilt yield rose 1.9bp to 4.306 per cent.

The yield on the benchmark 10-year Japanese government bond reached 1.5 per cent for the first time since March, after rising 2.5bp.

Bond traders shook off an early bullish mood in response to the day’s mildly disappointing Tankan survey of Japanese business confidence.

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