Monday, August 2, 2010

Abreast of the Market: Big Investors Fear Deflation -

A couple of articles on deflation in the press.

First, in this morning's Wall Street Journal, a note discussing how some big investors (notably Bill Gross at Pimco) are structuring portfolios for lower price trends. An excerpt:

Mr. Gross was much more skeptical of Treasurys as recently as about three months ago. Mr. Gross says he is paying particular attention to deterioration in an index produced by the Economic Cycle Research Institute that attempts to predict future economic health. In addition, he says, a drop in money supply and fiscal tightening in much of the world are reasons for Pimco's investment shift.

"We said, 'Hey, two-thirds of the world is moving to the zero line,'" of inflation, he says.

Pimco's team predicts "core" U.S. inflation, which excludes volatile energy and food prices, might drop a tad below 0% in the next few years; it could rise as high as 2% if economic growth improves.

There still is a big problem for investors preparing for deflation: It is hard to find attractive investments when it arises. Some say utilities and companies with stable cash flows are the best bets, along with government bonds. But many shares and riskier bonds depending on rising corporate profits could be losers in such a scenario.

Abreast of the Market: Big Investors Fear Deflation -

And then The Economist's blog talks about how the Fed could be moving more aggressively:

So how about it? This may be true. At the same time, the risk of deflation is greater than it seemed a year ago. Below is the Cleveland Fed's trimmed mean measure of consumer price inflation. Year-over-year, prices are up under 1%, and the trend line is clearly downward.

My colleague argues that the two powerful tools left to the Fed—explicit devaluation and a money-financed fiscal stimulus (a helicopter drop)—would take Treasury approval and are unlikely to be pursued.

As you know, I've been talking about deflation for a few months now, but now it seems to be gaining wider notice. I think the story for next few years will be all about cash flow.