Growing Inflation Expectations In 2010 With Steepest Yield Curve Ever

Posted By on December 24, 2009

 From The Daily Reckoning

Steep Yield Curve

The yield curve – the difference in yield between a 2-year Treasury note and a 10-year Treasury note – sits at a record 285 basis points. Fork over your money to the gubmint for two years and you get a paltry 0.88%.

But 10 years? You get 3.73%. Yes, that’s paltry too. But it’s hard to ignore the gap being this wide. Bond buyers expect a substantially higher yield if they’re going to lend money to Uncle Sam for the next 10 years. That means they sense the value of the dollars they get back will be diminishing.

At least that’s what they sense right now. We hesitate to suggest the bond vigilantes are out in force, but at least they’re out. There’s also evidence the mortgage vigilantes are out wandering around again. The spread between 10-year notes and 30-year mortgage rates is widening, and also points to growing inflation expectations for 2010.

Then again, some of the most celebrated hedge fund managers are seeing the same thing we’re seeing. “An increase in the monetary base leads to an increase in the money supply, which leads to inflation,” John Paulson said in a recent speech. (He also retains his big positions in gold.) Julian Robertson is also playing the yield curve with long-dated out-of-the-money puts on Treasuries.

Short term, we may get a clearer picture when the Treasury plans to auction a record-tying $118 billion in notes next week.

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