Peter Brimelow: Gold above $500 is about time


Treasury Yield Curve Partially Inverts;
Slow Housing-Market Data Help Create
Rare Situation; Watching for a Recession

By Mark Whitehouse
The Wall Street Journal
Tuesday, November 29, 2005

Bond investors, worried about slackening home sales, nudged the
threat level on their economic early-warning system a notch higher

In an unusual event known as a partial inversion of the yield curve,
investors kept buying five-year Treasury notes until their yield,
which reflects expectations of how the economy will fare over the
next several years, fell below the yield on two-year notes, which
tracks expectations of what the Federal Reserve will do with
interest rates in the shorter term.

Investors typically demand higher returns on longer-term notes to
compensate for the added risk of tying up money for longer periods.
The fact that they stopped doing so yesterday, say bond-market
professionals, suggests that they expect the Federal Reserve's
interest-rate increases to hurt the housing market, forcing the
central bank to bring rates back down to rescue a weakening economy.

"You're seeing the market beginning to perceive the Fed as closer to
done [raising rates] than it did before," said Steve Rodosky, a
Treasury portfolio manager at Pacific Investment Management Co., or
Pimco, an asset-management firm based in Newport Beach, Calif.

The switch in two-year and five-year yields could signal a broader
and more ominous reversal in interest rates. When, for example, 10-
year yields have fallen below two-year yields, the economy has often
gone into recession within a year or so, though Fed officials have
argued this time could be different.

In midday trading, the five-year yield fell as much as 0.01
percentage point below the two-year yield, though the difference
narrowed toward the end of the day. The 10-year note gained 6/32, or
$1.875 per $1,000 face value, to yield 4.410% -- only 0.08
percentage point more than the 2-year note. The 30-year bond gained
18/32 to yield 4.625%.

Bond-market professionals attributed yesterday's moves in yields to
a confluence of factors. First, existing-home sales for October
proved weaker than economists had expected, suggesting that the
Fed's campaign to raise short-term interest rates has started to
hurt the housing market by making mortgages more expensive. Second,
benchmark Treasury-bond indexes will include a larger share of
longer-term bonds at the end of November, forcing fund managers who
track the indexes to buy more long-term bonds, pushing their yields
down. Finally, certain speculative investors, who bet on falling
bond prices by borrowing and selling bonds, might be buying bonds to
close out those bets before reporting their results at the end of
the year.

"All sorts of issues are sort of coming together at the same time,"
said David Glocke, a Treasury portfolio manager at Vanguard Group,
an asset-management firm based in Valley Forge, Pa. ...

Fed Chairman Alan Greenspan and other economists have argued that a
yield-curve inversion need not presage a recession. Short-term rates
are still low by historical standards, and analysts attribute low
long-term rates to trends unrelated to gloomy expectations, such as
heavy foreign buying of bonds and investors' increased faith in the
Fed's ability to keep inflation low in the long run.

Even if the yield curve has lost its predictive powers, an inversion
will cause pain. Financial institutions can see profits disappear as
their borrowing rates rise above their return on long-term
investments. Also, investors who have bet on rising long-term rates
can suffer.

For some investors, though, inversion will be a boon. Mr. Glocke,
for example, said he put on a "curve-flattening trade" -- which
profits when long rates and short rates converge -- more than a year
ago. Such a trade can continue to make money even after the curve

The $15 billion financing for the leveraged buyout of car-rental
business Hertz Corp. -- currently an arm of Ford Motor Co. -- will
include $2.8 billion of high-yield bonds, said sources familiar with
the deal.

The private-equity firms buying out Hertz are Clayton Dubilier &
Rice Inc., Carlyle Group and Merrill Lynch Global Private Equity.

The deal is lead-managed by Deutsche Bank AG, Lehman Brothers
Holdings Inc., Merrill Lynch & Co., Goldman Sachs Group Inc., and
J.P. Morgan Chase & Co.


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