A Hand On The Pulse Of U.S. Economy
By MortazaviBlog on Sep 20, 2005
If you want to have a hand on the daily pulse of the U.S. economy, you should start getting into the habit of reading the daily "Credit Markets" column published in The Wall Street Journal.
The Journal rotates reporters for this column. It seems to be a training ground and a must-have skill for Journal reporters to know something about the credit markets, interest rates, government policy, inflation, unemployment and asset pricing.
To understand this column, you need to know something about how treasuries, interest rates and fixed-income securities are related to each other. The column tells you quite a bit about where capital felt like being during the previous day and where it expects (i.e. expects today) to be in the future. It also tells you something about the expectations regarding Federal Reserve plans to interfere in interest rates, which are set by offering government bonds of various duration.
Once you're capable of reading and parsing this short daily column in the Journal, you'll probably know enough macroeconomics to last you a life time.
One golden rule, which keeps repeated, almost daily, in every edition of the column, is the following: The price of bonds and their yield move in opposite directions. When the price of bonds go up, their yield goes down.
So, for example, if the Treasury wants to reduce interest rates, it will constrain the offer of treasury bonds in order to keep their prices high. If it wants higher interest rates, it will pump more treasuries into the market. On the other hand, the Treasury may have yield power in the course of events. It might have to borrow for the government, which will reduce treasury prices and increase bond yields and interest rates.
For the daily investor, the catch is the duration of bonds. How long does it take for a bond to reach maturity and how is the coupon payout distributed during that time? This question will determine whether the bond holder has locked himself correctly onto an interest rate profile that provides him with the best return against interest rate fluctuations. Of course, while the mathematics of fixed income securities is quite elegant, there are unpredictable causes such as huge government borrowing, the real estate defaults and other factors that always make a good prediction somewhat suspect, giving rise, effectively, to a certain amount of betting (or gambling) on interest rate options even if the investor is not actually buying or selling these options explicitly, and herein lies the cause to speculative fervor in an interest-rate based economy, from which there is very little scape as long as "capital" proves itself to be scarce or as long as there are no alterative institutional models in sight for its efficient (and effective) assignment and distribution.