The Unreliable Predictive Power of Bond Yields

With all the dire talk about America's public finances, you might think that investors would be spurning Treasuries. Instead, bond yields are low, as appetite for U.S. securities remains strong. Treasury Secretary Timothy Geithner takes comfort from the government's ability to borrow at low interest rates. "There's a lot of confidence" in America's capacity to meet its commitments, he says. Clearly, the bond markets are on to something.

Or are they? History suggests that bond investors, far from being unerringly clairvoyant, can be a pretty dim bunch. A study of 116 financial crises in 25 countries found that rates did poorly in foreshadowing financial difficulties, says Carmen Reinhart, a co-author of the analysis. European debt markets were "complacent" about the growing repayment risks there "even three years ago," says James Bullard, president of the Federal Reserve Bank of St. Louis.