ANALYSTS: OVERSOLD MKT GETS PPI RELIEF, FED KEEPS LONG VIEW
WASHINGTON (MktNews) - The evaporation of the market's PPI fears was appropriate given the headline
numbers, but it may be a stretch to think the Federal Reserve is a little less likely to ratchet up another notch as soon as
a week from Tuesday, analysts said Friday morning.
Pete Kretzmer at Bank of America stuck to his bottom line, that the Fed tightens by 25 basis points later this month
despite the Producer Price Index and then holds there until there is a reacceleration in demand.
Deutsche Bank's Joe Lavorgna saw pipeline pressures building toward higher headline inflation within the year with
"nothing comforting" for the Fed.
Morgan Stanley's Dick Berner said the Fed not only tightens at the next FOMC meeting, but does it again before
the end of the year. The "mixed" PPI report means the Fed is going to be looking more at price pressures earlier in the
pipeline.
BankBoston's Chief Economist Wayne Ayers said PPI was "a pretty good number, obviously, and that it's
somewhat irrelevant to the Fed, now that it has switched into a "preemptive mode." The fact remains, "the best news in
inflation is behind us" though it's not "off to the races."
But Bear Stearns' John Ryding said the "good number" brings "into question" whether the Fed does anything more
than move toward a tightening bias on Aug. 24.
Aubrey Lanston's Bill Quan said the debt market's uptrade suggested it was in an oversold condition, although the
decline in auto prices and the magnitude of the decline in meat prices were surprises.
Richard Yamarone, at Argus Research, said the market's concern with inflation is overblown to begin with in such a
low-inflation environment and the PPI report did nothing but reinforce that view.
The overall finished goods index was up 0.2%, slightly below the 0.3% expectation, while the core rate was only a
zero. But the highly sensitive core raw materials index was up 2.3%, duplicating the rise in May and up from June's
0.5% increase.
ANALYSTS -2-: FED IN PREEMPTIVE MODE, MAY IGNORE MODEST PPI
WASHINGTON (MktNews) - Despite some acceleration in pipeline pressures, the day's Producer Price Index
was a big relief for an oversold Treasuries market but perhaps not much of a factor anymore in Federal Open Market
Committee thinking, analysts said Friday.
Bank of America's Pete Kretzmer said his bottom line remains that the Federal Reserve tightens 25 basis points in
August and holds there unless it sees some reacceleration in demand.
"I think the headline number was a little better than expected. The story is lower food prices offset much higher
energy. The good news extended to seeing "very little inflation at the finished goods level" and any pressure in consumer
goods offset by a decline in capital goods.
The PPI finished goods index was up 0.2% instead of the 0.3% expected and the core rate was zero.
"But you have to look at earlier stages of production. There are pressures at intermediate goods level. We had the
fifth consecutive monthly rise after a year of declines," he said.
"(Alan) Greenspan rested most of his case at Humphrey-Hawkins on the labor market. We've seen evidence of
what he was looking for," (in labor cost/wage increases), he said. "There is nothing in this report that would dissuade
them from moving" especially combined with higher labor costs.
Greenspan made it clear, Kretzmer said, that he is not going to take a chance that companies will keep having only
very limited pricing power during the continuing expansion. There is more "a garden variety overheating going on now,"
he said, and a recovery abroad will eventually make it easier to pass through price increases.
"It is prudent to raise the fed funds rate now," Kretzmer said. However, he said the "urgency is not there" in that the
Fed is not behind the curve. "But they would want to move now and then wait and see if (the price pressures) would
begin to dissipate," he said. It is still hard to tell, he continued, how many moves the Fed is prepared to make.
Kretzmer expects a tightening of 25 basis points at the August meeting. And said the while the Fed would "likely
hold there, I can't say for sure there won't be further moves."
However, he said another rate hike this year would seem unlikely "unless we see reacceleration in demand. We do
see demand moderating from very high levels. If that continues they may be satisfied to stay at 5.25%." But "if there is a
major reacceleration in retail sales, no doubt they would make another move."
Morgan Stanley's Dick Berner said he expects the Fed to tighten this month and perhaps one more time before year
end.
"From our take it makes it a mixed report. It really means that Fed Chairman Alan Greenspan and his colleagues are
going to be looking at early stages of production as an inflation warning.
"Inflation currently is benign, but there are signs that it is likely to pick up in future. The Fed still has time to head
inflation off at the pass, before it begins to translate into increased prices in finished goods.
"It is not an alarming inflation picture, but it shows inflation starting to bubble," he said.
Berner noted that "lags are anywhere from three to nine months typically" so it is not unusual that there hasn't yet
been a visible uptick in finished goods prices, still somewhat muted by the lower prices of imports. "The pass-through is
by no means automatic," he said.
Berner said, nevertheless, while some factors have had a hand in muting price increases, they will not be enough to
head off inflation, "not without some tightening from the Fed."
"Disinflationary monetary policy is one of key factors that have been keeping inflation down. It is essential the Fed
act to reinforce that to keep inflation in check," he said. "There is a very important channel that works through
expectations that the Fed has almost total control over. I think that is an unheralded by extremely important factor,
which Fed officials themselves have emphasized."
Berner said other factors that could affect inflation are what happens to the dollar, "which is critical for inflation
expectations. If the dollar appreciates again it would help keep inflation down." He said he is worried about recent
weakness in the dollar, although lags are long, and the dollar is still up on trade-weighted basis for the year.
"The issue is how it influences expectations."
"I think they will judge a tightening is needed and will tighten on August 24, and there is a high probability of another
tightening before year end," he said. "Remember they are just taking back ease they put in place to save the world and
restore liquidity last year during the financial crisis, so this will restore policy to pre-crisis settings. It is not something
likely to damage the economy."
Richard Yamarone, of New York's Argus Research, said he thought the drought figured strongly in the way meat
prices, benefiting from forced slaughters, pulled down food prices. "The large decline in food prices was largely
responsible for the containment of the 0.2% increase," he said. The increases earlier in the supply pipeline are "certainly
not filtering into the finished goods."
"If I told you two years ago that we were going to be concerned, gravely concerned, over 6.11 on the bond and
1.5% inflation as measured by the Producer Price Index, I would have been laughed off Wall Street," Yamarone said.
Deutsche Bank's Joe Lavorgna said, "The story is pipeline pressures are building. We're likely to see higher inflation
over the course of the year."
Lavorgna also saw the drought in the numbers, since it "in the short term helped keep down prices" because some
farmers are "selling at distressed prices."
The Fed, he said, is "not getting disinflation of last year." Instead, "You're starting to get gains" in crude and
intermediate goods. "There is nothing comforting (in the report) for the Fed," he said. "They're going to raise rates later
this month. The question is, do they do more. This report doesn't change monetary policy."
"The market's price action today is not necessarily reflecting PPI or CPI. They may have been due for a bounce," he
said.
Aubrey Lanston's Bill Quan, agreed that the "uptrade" after PPI was not necessarily all related to the report itself. "I
think the magnitude of the decline in food prices was a surprise to a lot of people," he said, who did not fully anticipate
the effect of the drought on meat prices.
Another surprise was the decline in auto prices. However, the "market was just oversold. I don't think the uptrade
reflected the PPI as much as it reflected heavy buying and the oversold conditions."
BankBoston's Chief Economist Wayne Ayers said he thought the PPI was a "pretty good number, obviously, and
the market has acted accordingly. We haven't seen any appreciable price pressures for a good long time."
But as far as the Fed is concerned, "I don't think it's changed anything." Since the Fed has changed to a preemptive
mode, it is more concerned that "every indicator in the labor market points to accelerating wage pressure."
"The best news in inflation is behind us," he said. "I don't think it's off to the races. I don't think anybody, including
Greenspan expects that." But major components, from oil to health care, are climbing, he said.
It may be tough "politically" for the Fed to tighten "in the face of still benign inflation figures" but "they don't want to
push it off until year end."
Bear Stearns' John Ryding said the relief rally after PPI may have been slightly exaggerated by the timing. "The
release is a function of how nervous you are," he said. "We obviously went into the number extremely nervous. ... Our
fears were wound up, and this was a piece of good news."
For Ryding, the report raised some element of doubt about the Fed's determination to hike rates as soon as a week
from Tuesday. "What was a near universal expectation that the Fed goes Aug. 24 now comes into question," he said.
While changing the intermeeting bias to one toward tightening remains likely, the rate hike itself may wait until October.
"It's still a safe assumption that by the end of the year rates will be a quarter point higher than they are now," he said.
October is still "far enough away" from Y2K that "they wouldn't have a problem waiting until then," he added. |
