As the Federal Reserve moves closer to the bond market’s outlook on interest rates, the market has moved closer to the Fed’s view on inflation.
That’s a boon for Pacific Investment Management Co., which renewed its call for investors to guard against rising inflation shortly before the Fed’s policy announcement on Wednesday. With officials paring their forecasts for interest-rate increases and core consumer-price data exceeding analyst estimates, it turned out to be the best day in a year for a bond-market measure of expected inflation, reviving hopes for a trade that’s been a loser for three years.
Wagers on Treasury Inflation-Protected Securities had gone against investors from Pimco to Goldman Sachs Group Inc. to Brown Brothers Harriman & Co. amid tepid price and wage growth and as commodities plunged. The last time the bond market’s inflation expectations were aligned with the Fed’s 2 percent target was in August 2014. Fed Chair Janet Yellen said inflation “is expected to gradually move back” to the central bank’s goal after policy makers on Wednesday pared their forecasts for 2016 interest-rate increases to two from four in December.
"Markets are not fully priced for this reflation idea," said Anthony Crescenzi, market strategist at Pimco, in a radio interview with Tom Keene on Bloomberg Surveillance before the Fed meeting concluded. Inflation-indexed securities "are a good buy here."
The gap between yields on nominal five-year notes and equivalent-maturity TIPS, a gauge of expectations for consumer- price growth known as the five-year break-even rate, surged on Wednesday by the most in a year and now shows a 1.48 percent projected annual inflation rate over the next half decade. That metric plunged last month to the lowest since 2009 as a collapse in oil prices and an equity-market rout stoked concern that global growth is slowing. The five-year break-even rate was little changed as of 8:00 a.m. New York time Thursday.
Inflation-linked bonds have lagged behind the broader market in each of the past three years. TIPS have returned 1.8 percent this year through Tuesday, while conventional Treasuries gained2.15 percent, based on Bank of America Merrill Lynch indexes.
Goldman Sachs said in November that 2016 will be a “reflationary year” in the U.S., only to see the recommendation quickly go awry as oil tumbled. Goldman had recommended betting that the 10-year U.S. break-even rate would rise. The company abandoned the call Jan. 15 and said wouldn’t re-initiate it at that point.
Consumer prices in the U.S., excluding food and fuel, climbed more than forecast in February for a second month, figures from the Labor Department showed Wednesday in Washington. The core CPI measure, which excludes volatile food and fuel costs, rose 2.3 percent from February 2015, the most since May 2012, after rising 2.2 percent in the prior 12-month period.