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MONEY MARKETS-U.S. swap spreads widen on prospect of smaller pandemic stimulus

* U.S. Treasury to slow increases in issuance

* U.S. breakevens fall as markets prices smaller relief package (Updates election vote counts, U.S. swap spread, breakeven levels)

NEW YORK, Nov 4 (Reuters) - Spreads on 10-year U.S. interest rate swaps over Treasuries widened over concerns that the election will result in a split Congress and could mean a smaller stimulus package to counter the effects of the COVID-19 pandemic.

The U.S. presidential election hung in the balance on Wednesday, with Democrat Joe Biden leading in two critical Midwestern states that could tip the contest in his favor over Republican President Donald Trump. But emerging results from down-ballot races pointed to Republicans maintaining a majority in the Senate..

Spreads of interest rate swaps are typically viewed as indicators of market risk. A higher positive spread suggests market participants are willing to swap their risk exposures, suggesting overall risk aversion.

“Spreads are wider due to expectations of lower deficits, the potential for a split government, or even a status quo government because Donald Trump can still win the presidential race,” said Gennadiy Goldberg, senior rates strategist at TD Securities in New York.

“This suggests that the stimulus deal is likely to be smaller than larger. Less supply means more demand for Treasuries,” he added.

Long-dated U.S. Treasury prices rose, with yields falling from five-month highs, as concerns of prolonged election uncertainty have cast doubt over a much-needed spending package.

Spreads also widened after the U.S. Treasury said on Wednesday at its refunding announcement that it is slowing increases in issuance. On Monday, the Treasury said it plans to borrow $617 billion in the fourth quarter, lower than the August estimate due to the department’s higher cash balance at the beginning of October. .

In midday trading, the spread on 10-year U.S. swaps over benchmark Treasuries rose to 2.25 basis points, from 0.5 basis point late on Tuesday.

U.S. 10-year swaps measure the cost of swapping fixed rate cash flows for floating rate ones over a 10-year term.

Meanwhile, U.S. inflation breakevens, the bond market’s gauge of investors’ inflation outlook, fell to its lowest since early October. The yield spread between 10-year Treasury Inflation Protected Securities, or TIPS, and 10-year Treasury notes was 1.652%, the lowest since early October.

“Breakevens will very much move with risk,” TD’s Goldberg said. “If there is expectation of lower stimulus, that’s not good for breakevens.” (Reporting by Gertrude Chavez-Dreyfuss; Editing by Alexander Smith and Steve Orlofsky)

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