WASHINGTON — U.S. inflation soared to a 17-year-high annual rate in July, a government report showed, led by gains in food, energy, airline fares and apparel.
With energy and commodity prices on the retreat this month and the U.S. dollar strengthening, the report is unlikely to spook Federal Reserve policymakers into raising rates anytime soon as the economy struggles with rising unemployment and soft consumer spending.
Still, a surprising rise in core inflation that excludes food and energy last month will keep officials on edge about the possibility that food and energy prices will become more firmly entrenched in the economy.
The consumer price index rose 0.8% in July, the Labor Department said Thursday. That came on the heels of June’s 1.1% rise, which was the second largest June 1982.
Excluding food and energy, the CPI advanced 0.3% for a second-straight month.
Wall Street economists had expected only a 0.4% rise in the headline and 0.2% core increase, according to a Dow Jones Newswires survey.
Unrounded, the CPI rose 0.818% last month. The core CPI advanced 0.327% unrounded.
Consumer prices jumped 5.6% on a year-over-year basis, the highest rate since January 1991. The core CPI grew a more modest 2.5% compared to July 2007, though that’s still well above the Fed’s long-term goal of 1.5% to 2%. Over the past three months, core inflation rose at a 3.5% annual rate.
Though Fed officials said in a policy statement last week that inflation remains a “significant” concern, they are likely to look past the July data. The Fed is generally expected to keep official interest rates steady into next year, though the rise in core inflation, if repeated in coming months, could put rate hikes later this year back into play.
Many of the forces boosting prices in recent months — particularly high energy and commodity prices and the weaker U.S. dollar — have reversed since mid-July.
In a Dow Jones Newswires interview Wednesday, Minneapolis Fed President Gary Stern said even though the U.S. is “probably…in for a few more sizable increases” in overall prices measures, “assuming we don’t get a resurgence of energy prices, we will see over time a diminution of headline inflation, for sure.”
“As that occurs, I think we’ll also see some diminution of the core,” said Stern, who is considered one of the most vigilant inflation fighters on the Fed.
Energy prices swelled 4% last month, according to Thursday’s report. Gasoline prices spiked 4.1%, and natural gas prices rose 7.4%. Food and beverage prices rose 0.9%.
Medical care prices, meanwhile, increased a modest 0.1%.
But other core items posted sharp gains, a sign that higher headline inflation may have started seeping through the rest of the economy.
Clothing prices, for instance, rose 1.2% compared to June, a 10-year high. Transportation prices soared 1.7% on the month as airline fares swelled 1.3%, reflecting the rise in fuel prices. New vehicle prices advanced a modest 0.2%, reflecting falling demand.
Housing, which accounts for 40% of the CPI index, was up 0.6%. Rent increased 0.3%. Owners’ equivalent rent advanced 0.1%. However lodging away from home rose 0.7%, while home fuel and utilities posted sharp gains.
Services prices rose 0.5%.
In a separate report, the Labor Department said the average weekly earnings of U.S. workers, adjusted for inflation, fell 0.8% in July, suggesting incomes aren’t keeping pace with prices.
That, in turn, could further damp consumer spending which appeared weak in July, according to a retail sales report released Wednesday.
-By Brian Blackstone; Dow Jones Newswires;

NEW YORK — A top Federal Reserve official expressed concern Tuesday about inflation in the U.S. and warned the central bank may have to raise rates soon to keep price pressures under control.

“To prevent recent inflation from continuing to plague the economy and to avoid a rise in inflation expectations, I believe the current very accommodative stance of monetary policy will need to be reversed,” Federal Reserve Bank of Philadelphia President Charles Plosser said. “Depending on how economic conditions evolve, I anticipate that this reversal will likely need to begin sooner rather than later,” he said.

“To keep inflation expectations anchored means that monetary policymakers will have to back up their words with action,” the official added.

Plosser is currently a voting member of the interest rate setting Federal Open Market Committee, and his comments came from a speech prepared for delivery before the Philadelphia Business Journal Book of Lists Power Breakfast, in Philadelphia.

His comments arrive at a time where central bankers are struggling to contain inflation amid economic growth that has remained stubbornly weak, as financial markets have stumbled from one bout of trouble to the next. Most observers reckon the Fed is being boxed in by this mix of conditions, and as a result, it will maintain its current overnight target rate of 2% for the remainder of the year.

Plosser’s comments about the economy expressed a considerable amount of concern about inflation, although he showed less worry about the state of growth.

“We must be attentive to both growth and inflation in a consistent and systematic way, and as we are all aware, inflation has been rising,” Plosser said.

But he added “inflation is already too high and inconsistent with our goal of — and responsibility to ensure — price stability. Rates hikes “will likely need to begin before either the labor market or the financial markets have completely turned around,” Plosser said.

The official’s outlook on growth has undergone modest changes. “My own outlook for the rest of this year is for continued sluggish growth and weakness in labor markets,” with the U.S. gross domestic product likely rising by 1.7%.

“This is a somewhat better picture than just a few months ago,” Plosser said. But he added, “I still expect sluggish economic growth in the second half of this year and a further increase in the unemployment rate.”

Plosser said he expects the central bank’s preferred inflation gauge, the personal consumption expenditures index, to remain at a rise of 4% this year, reflective of energy price increases. He reckons the core PCE price index — it’s stripped of food and energy costs — will rise by 2.5%. That’s above the Fed’s perceived comfort range.

Plosser added “as energy and other commodity prices level off, I expect both measures of inflation to be lower — in the 2 to 2 1/4% range by the end of next year,” at least as long as Fed acts to make that happen.

Despite Plosser’s inflationary concerns, he argued the U.S. is not seeing a replay of the conditions seen in the 1970s, when the U.S. suffered from stagflation, a mix of low growth and persistent price pressures.

“I want to emphasize that what we have been seeing in the economy this past year, and in my own outlook going forward, is very different from the 1970s, because I see the Fed as committed to keeping inflation expectations well-anchored,” Plosser said.

The official also said the central bank’s preference for looking at prices stripped of food and energy factors may need to change. “Since energy price increases have been so persistent in recent years, I do believe more attention should now be paid to measures of headline inflation in setting monetary policy,” Plosser said.

By Michael S. Derby
Of DOW JONES NEWSWIRES

NEW YORK — Your dividend check is probably in the mail.

While the number of companies slashing or eliminating dividends has increased due to crises in the housing, mortgage and credit markets, a great many others continue these quarterly payouts, and some are even raising them.

Dividend-paying stocks remain a safe and attractive holding for investors seeking relief from the seemingly interminable onslaught of negative economic news. For elderly investors on a fixed income, dividends provide an essential stream of steady income — regardless of the vicissitudes of equity markets.

“A company with a long and consistent history of raising annual dividends is the best defense against a weak economy,” said William Schultz, chief investment officer at McQueen, Ball & Associates Inc., in Bethlehem, Pa. “A solid, dividend-paying policy reflects a financially healthy company that is able to grow its earnings in any and all market environments.”

Howard Kornblue, who once ran a mutual fund for Pilgrim America that focused solely on dividend-paying stocks, also believes such securities will serve beleaguered investors very well in today’s jittery environment.

“We sought out companies that not only raised their dividends annually, but also had strong balance sheets, no significant long-term debt and were engaged in businesses with solid outlooks,” he said.

Scott Schluederberg, a portfolio manager at Hardesty Capital Management, thinks the current environment for dividends is “fantastic,” as long as one holds a reasonably diversified portfolio of dividend-paying stocks.

Look around and you will see a wide array of companies boosting their dividends. Stocks as disparate as Rohm & Haas Co. (ROH), State Street Corp. (STT), Coca-Cola Co. (KO) and Target Corp. (TGT) have all recently hiked these payouts.

Dividend increases come from a broad array of industries, even in these troubled times.

Schultz especially likes two sectors with a plethora of dividend-paying firms: pharmaceuticals and consumer staples.

“There are a substantial number of blue-chip companies in these areas — including Procter & Gamble (PG), Johnson & Johnson (JNJ) and 3M (MMM) — which have rewarded their shareholders with uninterrupted annual dividend increases for almost five decades,” he said. “It all has to do with their ability to generate consistently growing earnings.”

In one of his investment strategies, Schluederberg keeps a basket of stocks called “Trophy Dividend Growers,” comprising blue-chips which pay out a very comfortable portion of their earnings (30% to 50%) as dividends.

“This gives them a good cushion — they can still pay dividends even in the event of an earnings shortfall,” he said. “We also consider earnings expectations. If the payout ratio starts going above, say, 70% of earnings, then we become concerned and consider exiting the position. We want to make sure the dividend is safe.”

In this strategy portfolio, the collective dividend yield is a very robust 5.2% (versus 2.2% for the overall market). Typically, the yield of this strategy is between 3.5% and 4.25%. “Dividends don’t fluctuate the way stock price does,” Schluederberg noted.

His “trophy dividend” growers include Anheuser-Busch Cos. (BUD). “We bought that stock in the upper $40s when it yielded close to 3%,” he said. “Its value was fully realized when InBev acquired it for $70.”

The best dividend-paying industries, Kornblue asserts, are companies engaged in utilities, essential consumer products, health care, pharmaceuticals, energy, food and beverages. “The managements of these companies are eager to maintain their dividends because they know many of their shareholders invest in them primarily for the dividend yield,” he noted.

But some companies can no longer afford the luxury of handing out dividends.

S&P recently reported that 97 publicly-traded companies (of the 7,000 it tracks) cut their dividend in the second quarter, versus just 18 in the year-ago period. This was the largest figure since the second quarter of 1990, when 108 companies reduced their dividend payouts. Moreover, companies posting dividend increases amounted to 455, a 16% drop from the year-ago period.

Kornblue, now senior portfolio manager at Alpha Fiduciary Generational Wealth Management in Scottsdale, Ariz., thinks dividends will become scarcer as the economy continues to falter. As such, to play it safe, he suggests that dividend-seekers completely avoid stocks in a few distressed industries, particularly financial services, auto makers and home building.

Although the phenomenon of high-profile financial services companies — notably Citigroup Inc. (C), Wachovia Corp. (WB) and Washington Mutual Inc. (WM) — reducing or eliminating dividends has grabbed headlines, the scenario in the overall sector isn’t all that dire.

In fact, according to S&P, for the first half of the year, 7.9% of financial issues shaved their dividends (versus 2.9% for non-financials.) More telling, 20.9% of financial stocks actually hiked their dividends. Still, the losses incurred by the unfortunate shareholders of those financial firms that slashed payouts have been enormous — on the order of $13 billion, S&P estimates.

As for financial services stocks that continue to pay dividends, investors should be extremely cautious. Schultz cites US Bancorp (USB), which has faithfully raised its dividend 36 consecutive years, an impressive stretch. “Given the turmoil in the banking industry, we are waiting to see what they do in the fourth quarter,” Schultz noted.

Kornblue also thinks things will get worse for the financial sector, citing the deepening credit crisis, slowing economy and the ever-unfolding mortgage meltdown. Many financial stocks still paying a dividend carry unsustainably high yields, he warns, strongly suggesting dividend cuts are inevitable.

“There’s a lot of uncertainty here, especially among mid-sized banks,” he said. “More shoes may drop as we learn more about the full extent of their exposure to toxic mortgages.”

But not all financials are bad, Schluederberg insists, especially those companies that have diversified operations, have avoided risky acquisitions, or have too much exposure to mortgages. For example, he likes JP Morgan Chase & Co. (JPM), which just posted better-than-expected second-quarter results.

“They are well-positioned to survive the current crisis,” he said. “In fact, they served as the backstop for the Federal Reserve’s Bear Stearns rescue. JPMorgan shares have sold off recently, but I think they can sustain their dividend.”

While some investors crave a high dividend yield, this can sometimes be a misleading concept. A steep dividend yield may simply mean that the stock price has fallen too far, but the company is still dutifully paying its dividend. This often equates to an unsustainable situation, because the company may have weakening internal fundamentals and likely will have to cut or abolish the dividend.

“A high dividend yield does not necessarily mean that the company is healthy and fast-growing, although it depends on each individual case,” Schultz said.

“As investors, we are more interested at the rate of growth of the dividend, not the absolute dividend figure itself.”

Indeed, some industries like utilities and big pharma tend to have high dividend yields, but they are hardly “high-growth” industries.

To avoid high-dividend yield traps, Schluederberg looks at future earnings estimates. “If a company is paying a $1 annual dividend and their earnings are forecast to be $1.05, then that dividend is in jeopardy,” he explained.

For more information on investing for income visit www.livelongliverich.com and don’t forget to sign up for the free newsletter!

By Palash R. Ghosh
A Dow Jones Newswires Column

Interest rates have dropped and it has caused many investors to search for higher income producing investments and is leading many into more complex fixed income products. Not all that appears to be safe is, and those that have read about the credit issues plaguing Wall Street know all to well the negative ramifications misunderstood investments can have on one’s financial present and future.

But we can improve our situations, not by taking on more risk but perhaps understanding the risk in what we own and are contemplating investing in. I would like to go over two simple but yet important concepts in bond investing that many, even savvy stock buyers do not fully understand and therefore under appreciate their importance. It is a bond’s yield to call and yield to maturity. 

Lets start with a simple CD. (Certificate of Deposit) CD’s are time deposits and you agree to invest your money for a certain period of time at a certain interest rate and at the end of that period, at maturity, you receive your money back plus interest earned.

Bonds of all types are available and work in a similar way. You place your money with a government entity or company and receive interest for that period of time and at the end you receive your principal back. There are many types of risks associated with bond investing from credit risk to interest rate risk just to name two but I want to focus on just two parts of the decision on whether a bond is right for you, first Yield to Maturity.

Yield-To-Maturity

When you purchase a bond, the price you pay may be more or less than the maturity value. The values of bonds will fluctuate and on the date of purchase, it could be trading above the maturity or par value, which is called a premium bond, or below it which is called a discount bond. The premium or discount you pay effects the overall return on the investment.

If you paid $950 for a $1000 bond, you paid a discount and the appreciation from $950 to the maturity value of $1000 plus the interest earned needs to be taken into account when evaluating the overall return on the bond. You not only earned the interest, but made $50.

The same holds true for a premium bond. If you paid $1050 for a $1000 bond, you paid a premium. The difference between what you paid over the maturity value would need to be subtracted to find out your overall return. In this case you earned interest but lost $50 on the investment.

When evaluating a bond you may want to invest in, you do not need to figure all this out. Your advisor or company you deal with will be able to tell you the yield to maturity. If a discount bond had a yield to maturity of 6%, and a premium bond had a yield to maturity of 6.1%, all other factors remaining equal, then the premium bond would be a better buy. The total return was better even though I paid more for it.

So it’s not just the interest rate the bond pays, it is also the price you are able to purchase it at that makes a difference.

Yield to Call

The yield to call is determined in the same way as the yield to maturity except the call date is used instead of the maturity date. Most bonds today have call provision which means the issuing organization has the right to redeem, call away (give your money back) earlier than the stated maturity date. They will most likely do this if they can turn around and borrow at a lower rate than they are paying you. Just like you might refinance your home mortgage at a lower rate.

The effects of a discount or premium paid are magnified since the gain or loss, in this case of $50.00 is compressed over a shorter period. Making $50.00 over a shorter period of time is a good thing, losing the $50.00 premium over a shorter period of time is a bad thing and hurts your overall total return.

The interest rate you receive may increase the chances of a call. If a bond has a high interest rate and the current rates are much less, the bond has a greater risk of being called away and therefore a premium bond holds more risks under this environment.

Fortunately, the yield to call just like the yield to maturity is readily available to you from your advisor. When investing in bonds, the price you pay can have a dramatic effect on your return. The higher the yield to maturity on a premium bond does not equate to a better investment if the chances of a call are higher.

Knowledge is king in bond land, don’t be lead by the nose, know what you are buying and understand the risks first, reaching for a higher yield and ignoring the risks could result is a major loss of principal. On Wall Street, there is no free lunch.

For more information on bond investing, please log onto www.livelongliverich.com and don’t forget to sign up for the free newsletter.

Well, perhaps not new but for many unfamiliar. There are CD’s that are available that enable investors to capture higher interest rates than just buying a plain vanilla CD and at a time when rates are down, these structures can prove to be a best of breed when it comes to income and safety.

C.D.’s are time deposits, i.e. you agree to put your funds on deposit with a bank for a stated period of time, during which your funds earn interest at an agreed upon rate. In general, the longer you are willing to leave your money in a C.D., the higher the rate of interest you will receive.

C.D.’s purchased directly from banks are secured by FDIC insurance in amounts up to $100,000 per investor, 250,000 for retirement plans. They typically pay a stated interest rate until maturity. An investor wishing to withdrawal the deposit before maturity will usually be subject to a penalty.

Many securities firms also offer C.D.’s in the form of brokered C.D.’s. They are similar to C.D. s issued directly by banks, in that they carry FDIC insurance of $100,000 per investor and are available in a variety of maturities. They differ because they can be bought and sold prior to maturity which makes them more liquid. The price will fluctuate and could be more or less than what you paid or the maturity value.

Another benefit to brokered C.D.’s is that they usually include a “survivor’s option” which is very important to consider. Although restrictions on this provision may exist, it usually provides for redemption of the C.D. at the maturity value upon the death of the owner, even if this happens well before maturity. This can be an important estate planning tool especially for an older individual who wishes to capture the higher rates associated with longer term C.D.’s but not tie up the money for his/her heirs in their estate. Most of my older clients love this structure and I do too.

Step Up C.D.’s

Step-up CDs feature interest rates that increase or step up to a pre-determined level on a specific time schedule as they approach maturity. The interest rate on these CDs is usually fixed for a period of time, which is followed by a step up to another fixed rate. These steps may occur more than once before a CD reaches maturity.

Let’s look at an example:

Consider a 10 year CD. The first two years it pays a 4 percent interest rate. The next two a five percent interest rate, the next two a six percent interest rate and so on.

Years 1 and 2  4%
Years 3 and 4  5%
Years 5 and 6  6%
Years 7 and 8  7%
Years 9 and 10 8%

This structure usually pays a higher rate that on a short term security and steps up at a moderate rate as the CD moves towards maturity. The downside is that most of these issues are callable on the date of the first step-up. At that point if the bank does not want to pay the higher stepped-up rate it can redeem the bond. It still remains however an attractive structure for those looking for income.

As you can see, CD’s have various structures that offer a higher income stream while still retaining the FDIC insurance and the safety factor many investors seek in their investments. The next time you look to invest, check out the rates on Step-Up and Brokered CD’s. The rates are usually competitive and the safety factor many seek.

For more informations log onto www.livelongliverich.com and don’t forget to sign up for the free newsletter.

When it comes to investing in bonds, some of the basic concepts regarding bond risks tend to elude investors. Most understand the risks associated with stocks. If you invest in a stock, and its price increases, you make money, if it drops you lose. But bond risk has many different components. One of those risks is how the interest rate and maturity effect bond prices.

The maturity of a bond is the date on which the principal amount is repaid and the issuing organization returns your investment to you. You can buy bonds with maturities as short as one week or as long as one hundred years. Clearly the maturity (or maturities) you select should be aligned with your investment goals.

As a rule, most investors should consider bonds with maturities of 20 years or less. Many investors stagger the maturities of various bonds in a portfolio to create a “ladder structure”. This creates a blend of short-term and long-term maturities and interest rates.

If you hold a bond to maturity, assuming the bond you own is not in default, you will get back your initial investment. Between now and then, as interest rates fluctuate, the price of the bond will also fluctuate. That means the price of your bond will go up and down.

If interest rates rise, the current value of a bond will drop. If interest rates go down, the current value should rise. The relationship between interest rates and bond prices is inverse. The price of a short-term bond will fluctuate less than that of a long-term bond because the shorter the maturity, the sooner you will receive your principal back and the sooner you can reinvest at current rates. The shorter time frame reduces the risk that something can go wrong. Because there is less risk of price volatility with a short-term bond compared to a long-term bond, the interest rate should be lower on the shorter maturity. Shorter maturity, less risk, less interest. Longer maturity, more risk, higher interest rate.

What length of maturity should you buy if you think rates are going higher? The answer, shorter term maturities. The value of short term bonds is more stable in a rising interest rate environment. As rates rise, your portfolio will be more stable and you will have bonds maturing enabling you to reinvest at the current higher rate.

You can find more information about bonds and interest rate risks at www.livelongliverich.com and www.investinginbonds.com.

Explaining what can happen to the price of a bond is complicated and many factors go into the value of securities such as credit risk and trading environments. But as far as the relationship between rising interest rates and bonds are concerned, a picture speaks a 1000 words.