NEW YORK (CBS.MW) -- Treasurys forged higher and benchmark yields hit their lowest level since November 1963 on Tuesday after the Federal Reserve kept rates steady and shifted to a weakness "bias."

Fixed-income markets viewed the changed risk assessment as a sign the Fed is poised to cut rates in coming weeks or months. See related story.

Inflation is not a major worry, the FOMC said Tuesday. Read the full statement.

The fed funds target will remain at a 40-year-low 1.75 percent, a level put in place in December.

A benchmark 10-year note was 1 3/32 higher at 102 12/32 to yield ($TNX: news, chart, profile) 4.08 percent, down 13 basis points. According to Federal Reserve data, yields haven't been so low since Nov. 29 1963, shortly after the government first offered these issues. The 10-year note was actively sold beginning in 1976.

"With mortgage rates closely tied to the behavior of the 10-year note, the Fed's inaction, which is a boon to inflation-fearing long-term bond investors, is spurring a sharp decline in rates that will have tangible effects on the economy," said Tony Crescenzi, market analyst at Miller Tabak.

"The Fed may be trying to engineer a decline in long-term rates and hence help the economy in ways that a puny quarter point cut in short-rates could not," Crescenzi said.

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Treasury gains were felt along the yield curve. A strong reaction was seen in the Fed-sensitive short end of the market after a change in the assessment of economic risk leaves many market participants believing a rate change will come in September or November.

After the announcement, the October fed funds futures contracts indicated investors have now discounted 76 percent odds for a quarter-point reduction at the Fed's Sept. 24 meeting, noted Corey Redfield, fixed-income analysts with US Bancorp Piper Jaffrey.

The longer end of the market was already enjoying a banner day.

A 30-year bond was up 1 19/32 point at 106 7/32 to yield ($TYX: news, chart, profile) 4.97 percent, down 10 basis points from Monday. The long bond yield last closed at 5 percent or below on Nov. 13, 2001.

A 2-year note rose 7/32 at 100 18/32 to yield 1.96 percent, down 11 basis points from the previous session. A 5-year note added 17/32 at 100 20/32 to yield 3.11 percent, down 12 basis points.

These issues notched record lows last week when traders believed the Fed would be inclined to move on rates this soon. Accordingly, the difference in yield between 2-year notes and 30-year bonds gaped to their widest mark in nine years.

Such a steep yield curve did flatten somewhat in the last few sessions leading up to the Fed meeting once the market pushed back its forecasts for a rate cut and grew more convinced only one or two cuts were probably in the making for 2002, not three or four.

Stock indices skidded back into negative territory as a Fed nervous about recession rekindled market jitters. The Dow Jones Industrial Average ($INDU: news, chart, profile) shed 206 points, or 2.4 percent, to 8,482. The Nasdaq Composite ($COMPQ: news, chart, profile) lost 37 points, or 2.9 percent, to 1,269. The Standard & Poor's 500 Index shed 2.2 percent while the Russell 2000 Index of small-capitalization stocks gave up 2.8 percent. See Market Snapshot.

"Just by leaving rates at their current low levels, the Fed is boosting the economy. They know the economy is weak, but it's still growing and they think they're doing enough," said Bill Cheney, chief economist with John Hancock Financial Services.

"Changing their statement about the balance of risks to indicate more concern with economic weakness than with inflation seems more than reasonable, he said. "Unlike some, I don't feel that locks them into easing at the next meeting. The Fed's mission is not to rescue the stock market. Greenspan may talk about volatility, but he isn't going to worry about the level of the Dow."

In economic news released Tuesday, retail sales rose by an as-expected 1.2 percent in July and edged up a tepid 0.2 percent when excluding autos, a shade lower than the 0.3 percent increase that had been expected by economists. Read the story.