*

ISM services PMI slips to 50.1, below expectations

*

Fed rate cut expectations rise sharply after weak payrolls

report

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Trump considers candidates for Fed replacements, excluding

Treasury Secretary Bessent

(Updates to afternoon trading)

By Chuck Mikolajczak

NEW YORK, Aug 5 (Reuters) - U.S. Treasury yields were

mostly higher on Tuesday following three straight days of

declines, but eased from earlier levels after data showed

stalling activity in the services sector.

The Institute for Supply Management (ISM) said its

nonmanufacturing purchasing managers index (PMI) slipped to 50.1

last month, below the 51.5 estimate of economists polled by

Reuters, and from 50.8 in June.

In addition, price pressures appeared to increase, as the

survey's prices paid index rose to 69.9, the highest level since

October 2022, from 67.5 in June.

"I really believe the Fed is probably going to lean towards

easing at some point by the end of the year, but right now, a

number like this, it certainly puts a lot of strength behind

what (Fed Chair) Powell has been saying as far as we're waiting

to see what these tariffs do to inflation," said Tom di Galoma,

managing director at Mischler Financial Group in Stamford,

Connecticut.

Yields have fallen in recent days, with the 10-year yield

down for three straight sessions, including a sharp drop on

Friday following a weak government payrolls report and a

surprise announcement from the Federal Reserve that Governor

Adriana Kugler was resigning early.

The yield on the benchmark U.S. 10-year Treasury note

was up 0.8 basis point to 4.206% after rising as

high as 4.226% on the session.

The 10-year yield had dropped 18 basis points over the prior

three sessions, its biggest 3-day decline since mid-April.

Yields moved slightly higher after a $58 billion auction of

3-year notes, which was seen as somewhat soft by

analysts, with demand a below-average 2.53 times the notes on

sale. More supply will hit the market this week with $42 billion

in 10-year notes on Wednesday and $25 billion in 30-year bonds

on Thursday.

The yield on the 30-year bond fell 1 basis

point to 4.785% after climbing to 4.815% earlier in the day.

Expectations for a rate cut of at least 25 basis points by

the Federal Reserve at its September meeting have sharply

increased in recent days, and currently stand at 89.4%,

according to CME's FedWatch Tool, up from 63.3% a week ago and

below 50% before Friday's jobs report was released.

As Powell's term ends in May and Kugler will exit the

central bank on August 8, President Donald Trump will have the

ability to appoint replacements who will be more receptive to

interest rate cuts.

Trump said on Tuesday he would make a decision on a

short-term replacement for Kugler soon and that he was looking

at four candidates to replace Powell, although he ruled out

Treasury Secretary Scott Bessent.

San Francisco Federal Reserve Bank President Mary Daly said

on Monday that given mounting evidence that the U.S. job market

is softening and no signs of persistent tariff-driven inflation,

the time is nearing for interest rate cuts.

A closely watched part of the U.S. Treasury yield curve

measuring the gap between yields on two- and 10-year Treasury

notes, seen as an indicator of economic

expectations, was at a positive 48.4 basis points after reaching

a 2-1/2 week high of 54.9 on Monday.

The two-year U.S. Treasury yield, which

typically moves in step with interest rate expectations, rose

3.9 basis points to 3.72%. The yield had dropped nearly 26 basis

points over the past three sessions, its biggest drop in a

year.

The breakeven rate on five-year U.S. Treasury

Inflation-Protected Securities (TIPS) was last at

2.428% after closing at 2.433% on Monday.

The 10-year TIPS breakeven rate was last at

2.347%, indicating the market sees inflation averaging about

2.3% a year for the next decade.