The Wall Street Journal-20080116-Ahead of the Tape
Return to: The_Wall_Street_Journal-20080116
Ahead of the Tape
Bond Yields
Defy Wisdom
On Inflation
Five days ago, Ben Bernanke finally stopped worrying so much about inflation and embraced the fight against recession. The bond market seems to think he made the right call.
The day before the Federal Reserve chairman promised to slash rates as necessary to help the economy, the 10-year Treasury note yielded 3.79%. The yield has since fallen to 3.70%. When they fear inflation, bond buyers typically seek higher yields to protect the value of their investment. Falling yields suggest that investors are less worried about inflation than before Mr. Bernanke spoke.
The two-year yield dropped even faster, to 2.53% from 2.68%, widening the gap between it and the 10-year yield. Some say that steeper "yield curve" is a sign the market believes rate cuts will result in higher prices down the road. But sharply lower yields overall are hardly a symptom of rampant inflation anxiety.
More telling may be what 10-year Treasury inflation-protected securities say about prices. These instruments, which fluctuate with inflation, are pricing in roughly a 2.25% annual increase in the consumer price index over the next 10 years -- a smidgen higher than before Mr. Bernanke spoke, but still lower than the 2.33% annual growth expected a month ago.
Today's Labor Department report on the December Consumer Price Index shouldn't do much to upset the view that inflation isn't a big problem. Inflation seems unlikely to have risen as brutally as in November, when energy prices soared.
Mr. Bernanke talks to Congress tomorrow about the economy. He probably won't sound very different than he did a week ago. If he does get more aggressive about cutting rates, that may only make bond investors price in a grimmer economic outlook.
A Deeper Look at the CPI
A pickup in rent prices in the previous CPI report had some economists biting their nails. But the longer-term direction in rents is probably down.
Rents were trending lower early last year as the housing slowdown shifted more homes into the rental market. Since owners'-equivalent rent, the Labor Department's main measure of housing costs, makes up nearly one-quarter of CPI, it helped moderate inflation and opened the door to the Fed's rate cuts.
In the three months through November, OER was up 3.4% at a seasonally adjusted annual rate, compared with 1.8% in the three months through July. That could reflect an increase in renters as mortgage-lending tightened, as well as a surprising decline in housing inventories in urban areas. The number of homes for sale in 18 metropolitan markets declined three straight months through December, according to ZipRealty.
The inventory decline may not last for long. Many economists expect housing inventories to start rising again now that the holidays are over, especially if unemployment rises. That should drag on home prices, and rents. Moody's Economy.com expects home prices to drop by nearly 15% from their peak by early 2009. If the economy hits a recession, the decline could go as high as 25%. In that case, rent prices will be the last thing investors have to worry about.
-- Scott Patterson
---
Email [email protected] and [email protected]
