Do rising bond yields mean U.S. inflation is coming?

Earlier in the week 10-year U.S. treasury bond yields moved close to 4% and are approaching their 2008 highs. Part of the reason for the move was the government bond auction yesterday and often yields increase prior to these auctions in order for buyers of the new debt to get more favourable entry points. After listening to Frank Curzio's Podcast (the S&A Investor radio podcast) he talked about his fears for impending inflation in 2011 because of the movement of the 10 year treasury bond, but is he right to be fearful? The 10 year generally sets consumer loans such as mortgages so would hurt the consumer recovery.

Government bond yields can go up because:
1. Investors believe that the creditworthiness of the debt issuer is going down e.g. as i the case of the Greek government
2. Fear of inflation in the future
3. Higher interest rate expectations in the future driven by an expanding economy

Historically, the 20-year treasury bond yield has averaged approximately two percentage points above that of three-month treasury bills. Generally when the gap between short and long term treasuries increases it is a sign that the bond market expects the economy to improve in the future because the Federal Reserve will increase interest rates. Currently the yield on the 2 year is at 1.04% and the 10 year is at 3.86%, nearly 3% higher.

If fears of inflation were driving this increase in bond yields you would expect that inflation indexed treasuries which pay more interest the higher the rate of inflation would be rising at a much fast rate than standard treasuries. But this has not been the case. 

So in summary I do not agree with Frank Curzio's hypothesis that we are on the verge of a period of rising inflation despite all the paper being printed by the central banks for the bail-outs. I do see inflation coming into the equation but not for a while yet. Perhaps we should worrying in late 2011?

2/3 of S&P 500 companies have beaten on top line

This morning I was listening to the the excellent and highly recommended S&A Investor Radio Podcast by Frank Curzio (available for free from the Itunes store). Frank interviewed head of research for TheStreet.com's Action Alerts portfolio (Jim Cramer's Charitable portolion), Stephanie Link, and she cited the statistic that 2/3 of companies that had reported so far in the S&P 500 had beaten on revenues. This is an interesting statistic since it indicates that perhaps economic recovery in the U.S. is better than expected as the hypothesis has been that aggressive cost cutting has grown bottom line profits but the sales revenues were still weak due to low economic activity.The U.S. economy looks to be set for good growth in the next 6 months, helped by the continued stimulus package.The continued deficit issues make the back end of 2010 and 2011 much more hazy.

Although I have been selling down portfolio positions over the last week to bank some profits in stocks such as Coal of Africa (CZA), Intel (INTC) and Amgen (AMGN), any significant weakess in the markets is very much seen as a buying opportunity for favoured names. Certainly a trading market, not a buy and hold by any means!