Colombia Floods Spur CPI Bets Citigroup Calls Overdone

Colombia's Central Bank President Jose Dario Uribe
Jose Dario Uribe, president of Colombia's central bank. Photographer: Chris Ratcliffe/Bloomberg

Growing bets Colombia will miss its inflation target for the first time since 2008 are a signal to Citigroup Inc. and Corp. Financiera Colombiana SA that traders are overestimating how much floods will push up food prices.

The gap between yields on government inflation-indexed bonds due 2013 and similar-maturity fixed-rate debt, a gauge of annual consumer price increase expectations known as the breakeven rate, soared to 436 basis points, or 4.36 percentage points, at 3:07 p.m. New York time from 249 on Oct. 27. It touched 473 on Jan. 7, the widest since March and above the central bank’s target inflation range of 2 percent to 4 percent.

Wagers on faster inflation mounted after floods that left at least 300 dead in the South American country choked off farmers’ supply routes, driving up food costs and sparking the biggest monthly jump in consumer prices in 10 months. Traders are overreacting to December’s 0.65 percent inflation rate because price increases will ease as the flood waters retreat, said Andres Pardo, head analyst at financial services holding company Corp. Financiera Colombiana, known as Corficolombiana.

“Investors are failing to take into account that the rise in food prices is temporary,” Pardo said in a telephone interview from Bogota. It’s a “good moment” to start selling the inflation-linked bonds due in 2013 after they returned 1.9 percent in the past two months through yesterday, compared with an 0.8 percent loss on the fixed-rate securities, he said.

Mexico, Brazil

Rising food prices are also helping push traders’ inflation estimates higher in Brazil, Latin America’s biggest economy.

The difference between yields on the country’s two-year inflation linked bonds and fixed-rate securities widened to 6.62 percentage points yesterday, the most since November 2008. In Mexico, the yield gap between similar securities fell to 3.86 percentage point from a five-month high of 4.28 percentage point on Jan. 20.

Colombia’s central bank kept its benchmark interest rate at a record low 3 percent for a ninth straight meeting yesterday as bank General Manager Jose Dario Uribe called the food price increases “transitory.”

“Inflation expectations seem to have reacted in an exaggerated manner at the transitory effect in food prices,” Uribe said after the policy meeting.

The 0.65 percent increase in consumer prices in December was more than double the median forecast for 0.3 percent among analysts surveyed by Bloomberg. Food prices climbed 1.7 percent, the most since at least 2009. The annual inflation rate jumped to 3.2 percent, the highest in more than a year.

‘Spiraling’ Market

Agriculture Minister Juan Camilo Restrepo said last month that food prices will continue to rise in the first quarter after the worst flooding in three decades wiped out some crops. Rafael Mejia, president of the Colombian Agriculture Society, estimates food prices will rise 5.7 percent this year, with a 3.8 percent increase in the first three months.

“When the market enters into a negative mood it runs into stop-loss levels and before you know it, it’s spiraling,” said Munir Jalil, chief economist at Citigroup’s Colombia unit.

Monthly inflation will peak in February at 1.06 percent, driving the annual rate to 3.7 percent, Jalil forecasts. He expects inflation to end this year at 3.6 percent.

Economists have raised their forecast for year-end inflation to 3.6 percent, according to the median of 21 estimates published Jan. 27 by Citigroup. The median forecast was 3.25 percent in the December survey. Analysts see an 80 percent chance the central bank will reach its 2011 inflation target, Citigroup’s survey shows. That’s the lowest level since March, which had it at 77 percent.

January Inflation

Colombia’s inflation-linked bonds due in 2013 have climbed 0.69 centavo since the end of October to 107.355 centavos per peso yesterday, pushing the yield down 64 basis points to 1.7 percent. Yields on the fixed-rate bond climbed 115 basis points during that period to 6.06 percent.

Daniel Lozano, an analyst at brokerage Serfinco SA in Bogota, said investors should consider starting to sell the inflation-linked debt due 2013 to lock in profits.

“The market is betting on very high inflation in January, but with those returns there is a big risk people will take profit at any moment,” wiping out gains, he said. “I don’t think people are taking that market risk into consideration.”

January’s inflation report, scheduled for release Feb. 5, will give investors a better picture of how the floods affected food prices, said Camilo Contreras, a fixed-income analyst at Bogota-based brokerage Ultrabursatiles SA.

January Inflation

Economists estimate consumer prices climbed 0.91 percent last month, the most in almost three years, according to the median of 21 estimates compiled by Bloomberg. The annual rate rose to 3.4 percent, analysts forecast.

Juan Carlos Hernandez, a fixed-income trader at Miami-based brokerage Tradewire Securities, predicts further gains in inflation-linked bonds, known as UVRs, because monthly inflation will quicken through March and maybe into April.

“There is still room for profit,” Hernandez said. He recommends investors buy UVR bonds due 2013 and 2015.

Francisco Chaves, a fixed-income analyst at Bogota-based brokerage Corredores Asociados SA, said the gap between fixed and inflation-linked yields may continue to widen on higher international food prices.

“Inflation is an issue that may remain for some time,” Chaves said. “In that case UVR bonds would remain attractive as a refuge.”

‘Avoid Suicide’

World food prices rose to a record in December on higher sugar, grain and oilseed costs, the United Nations said, exceeding levels reached in 2008 that sparked deadly riots from Haiti to Egypt. An index of 55 food commodities tracked by the Food and Agriculture Organization increased for a sixth month to 214.7 points, above the previous all-time high of 213.5 in June 2008, the Rome-based UN agency said in a report last month.

While Citigroup’s Jalil recommends investors buy fixed-rate securities as a bet the yield gap will narrow, he says it’s best to wait for the January inflation report to come out first.

“The big question, which is creating so much noise, is how January inflation will come in,” Jalil said. “You want to gauge market sentiment first, to avoid suicide.”

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