TREASURIES-Short-end bonds rally as bank failures re-shape rates outlook

SINGAPORE, March 13 (Reuters) - Two-year yields fell sharply for a third straight day on Monday and interest rate futures rallied as the failure of two U.S. banks had investors dialing down interest rate expectations. U.S. officials stepped in over the weekend to shore up rattled confidence in the banking system by guaranteeing deposits at the failed Silicon Valley Bank and closing down under-pressure lender Signature Bank . Two-year Treasury yields were down more than 20 basis points at one stage in Asia to a five-week low of 4.343%. Yields fall when bond prices rise and, if sustained, the three-day drop in the two-year yield is the largest since 1987. Fed funds futures surged at the open and then surged again after Goldman Sachs published a note saying it now expects the Fed to stand pat next week after a year of rate hikes. "In light of recent stress in the banking system, we no longer expect the (Fed) to deliver a rate hike at its March 22 meeting, with considerable uncertainty about the path beyond March," Goldman analysts said. Futures pricing now implies a near 20% chance the Fed holds steady next week and about an 80% chance of a 25 bp hike. Last week markets had been all but braced for a 50 bp hike. The futures-implied peak in rates was also wound back dramatically and sits around 5%, after topping 5.6% last week. Longer-dated bonds missed out on the rally and the very long end of the curve was sold, with the risk that a pause for rate hikes could see sticky inflation persist even longer. Benchmark 10-year yields bobbled around 3.7%. (Reporting by Tom Westbrook; Editing by Jacqueline Wong)