MONEY MARKETS-Steepness beyond a year in dollar, Asia curves

* Dollar, Asia rates curves stay steep beyond 12 months

* Uncertainty over pace, time of rate rises dampens trade

By Vidya Ranganathan

SINGAPORE, July 23 (Reuters) - Yield curves in U.S. dollar markets and other Asian debt kept creeping up in the two-year segment on Thursday in markets constrained by uncertainty over the timing and nature of future policy tightening.

Against a backdrop of better earnings and higher equity markets alongside assurances from policy makers that rates will stay low for a while, the steep two-year rates in most markets showed investors were confident about just one thing -- that the current flush money market conditions will change in 24 months' time. For instance, the Reserve Bank of Australia's statement this week and inflation data from Australia strengthened market expectations the policy rate will be kept at current lows well into 2010, even if there are no further rate cuts.

But analysts expect RBA to raise rates in the latter half of 2010. Forward-starting swaps <0#AUDFSSM> show a jump in the 3-month Australian dollar swap rate to 4.63 percent at the end of 2 years from 3.88 percent at the end of 12 months. The 3-month inter-bank rate is close to 3.15 percent now.

"The only thing that is a given is that there will be no more rate cuts," said a fixed income analyst in Hong Kong.

"But there are too many question marks over the pace, timing and nature of a reversal in policy. Markets are unsure of how to price that."

The consensus seemed to be that nothing much will change in the next 12 months and the loose monetary conditions will definitely end within the next 2 years, he said.

"But even there, there isn't enough consensus. People could pay 2 years outright, but it is too expensive to do that."

Traders said that uncertainty had dampened volumes and cramped trading, although the steepness in the 1-year to 2-year part of the curve remained.

The spread between one- and two-year Singapore dollar interest rate swaps has widened to 46 basis points, three times the level in April. Indian rupee swaps have the 2-year-1-year spread at 75 bps, whereas that part of the curve used to be inverted in early January.

In dollar markets, forward-starting swaps show the 3-month rate at 0.98 percent at the end of a year, almost double current levels. That rate then jumps to 1.65 percent in swaps starting after two years.

LIBORs have meanwhile trended down. Three-month Singapore interbank dollars were quoted at 0.5 percent, a record low. The spread between the 3-month LIBOR and overnight indexed swaps is near 33 bps, levels last seen late in 2007.

"The stability of LIBOR may only be broken after LIBOR panel banks report earnings, but this stability should also have a positive impact on the front end of the eurodollar and swap spread curves," RBC Capital Markets said in a note.

RBC's analysts however recommended investors position for a flatter eurodollar curve, because it was pricing in unrealistic levels of future LIBOR, by selling the front end or white pack of contracts and buying the red pack or next lot of quarterly futures.

The 3-month December 2009 eurodollar contract implies a LIBOR at 0.725 percent, while the similar December 2010 contract implies a pricing of 2.02 percent for 3-month LIBOR.

"We feel that even if the Fed's growth expectations are realized into 2010, this implies an overly optimistic level of LIBOR in 2010 third-quarter," RBC said.

"We think an appropriate way to fade the equity market optimism over the last week as well as the optimistic expectations currently implied by Eurodollar futures is to own the red pack vs. selling whites."

(Editing by Tomasz Janowski)