By Caroline Valetkevitch
NEW YORK (Reuters) - World equity markets rose and short-term U.S. Treasury debt gained on Wednesday as U.S. Senate leaders announced a deal to prevent the United States from defaulting on its debt and end the government shutdown.
U.S. Senate Majority Leader Harry Reid and Senate Republican leader Mitch McConnell said leaders had come to an agreement, which will reopen the government that has been shut since October 1, and raise the debt ceiling. The House of Representatives planned to vote on the measure later in the day.
The final passage may come after the Treasury's Thursday deadline for being able to borrow, but news that a deal had emerged was enough to push U.S. stock prices within striking distance of an all-time high.
It also comes after days of political wrangling over the U.S. budget and the debt limit, which has sparked substantial preparation by dealers in government securities in case of a default.
"Any deal that gets us out of the current box, where we have a potential imminent default, is good," said Cam Albright, director of asset allocation at Wilmington Trust Investment Advisors in Wilmington, Delaware.
The fixed income market has busied itself with preparations in case of a missed coupon payment, which would reverberate through the short-term repurchase market, a key source of overnight funding for banks and other institutions that depend on the use of Treasury securities as collateral.
That market was effectively shut when Lehman Brothers collapsed in 2008 and endured severe strains in 2011 during the previous debt ceiling crisis.
Some have compared the situation to the extensive preparations to prepare technology systems for the so-called Y2K millennium bug in 2000, or to the fiscal ceiling debate in 2012.
"People were staying up all night worried about what would happen during (the Y2K) deadline. Then nothing happened," said David Keeble, global head of interest rate strategy with Credit Agricole Corporate & Investment Bank in New York.
"In this case, all the switching out of T-bills and dealings with repos would be for naught if we don't default."
Wariness over the problems in Washington has caused much volatility in the near-term Treasury bill market, which is more sensitive to the debt limit.
Interest rates on T-bills due on October 24 and October 31 rose in early dealings, but then eased on the likelihood that a feared default had been avoided. The yield on a two-year Treasury note that matures at the end of October and was issued in 2011 last stood at 0.6611, down from 0.7640 percent earlier in the session.
However, the difference between bid and offer prices in the short-term rates market and the repo market were elevated, widening to about 10 basis points. They normally trade around a 1-basis-point gap. Activity in the repo market was quiet, according to brokers, because traders were waiting for the outcome of the negotiations in Washington.
The CBOE Volatility index, Wall Street's fear index, fell 18.7 percent to 15.18.
The Dow Jones industrial average was up 155.41 points, or 1.02 percent, at 15,323.42. The Standard & Poor's 500 Index was up 17.97 points, or 1.06 percent, at 1,716.03. The Nasdaq Composite Index was up 38.47 points, or 1.01 percent, at 3,832.48.
MSCI's world equity index, which tracks shares in 45 countries, was up 0.6 percent at 389.54, not far from a five-year peak of 391.54 hit on Sept 19.
Worries over whether a resolution will be reached have roiled markets, and late on Tuesday Fitch Ratings warned it could cut the U.S. sovereign rating from AAA, citing the impasse.
The owners of more than 20 U.S. Treasury securities are seen most at risk, with the Federal Reserve almost certainly the largest holder.
If Washington does not reach a deal by Thursday, the U.S. government will by law no longer be able to add to the national debt and will have to rely on incoming revenue and about $30 billion in cash to pay the country's many obligations.
That money is expected to run out quickly and the government
would start missing payments in the weeks ahead.
With a large interest payment due at the end of the month and $58 billion in other obligations coming due the following day, many analysts have circled October 31 as a possible date for default if Congress has still failed to reach an agreement.
DEAL TALK ALSO BOOSTS U.S. DOLLAR, OIL
The dollar rose to a three-year high against the yen and gained against major currencies. The dollar was up 0.6 percent at 98.80 yen, not far from the September 27 high of 99.04. The dollar index up 0.2 percent at 80.658, with a peak of 80.754, its highest since Sept 18.
Oil prices also rose on the deal talk. Brent crude futures gained 90 cents to settle at $110.86 a barrel, while U.S. crude oil futures gained $1.08 to $102.29.
Gold prices dropped, with spot gold fell 0.6 percent to $1,272.40 an ounce.
(Additional reporting by Richard Leong, Ellen Freilich and Rodrigo Campos; Editing by Dan Grebler)
