Implied Inflation

We can calculate the market’s inflation expectation by referencing the US 10-year Treasury bond rate and referencing the US treasury Inflation-Protected Securities (or TIPS).

TIPS are securities whose principal is indexed by the inflation rate. The current inflation rate is around 1.75%. The 10-year US Treasury bond currently yields 0.79%. So, by definition, the real yield on 10-year bonds are a negative .96%.

You can check out the quoted yield on TIPS, and other bond rates, on the Bloomberg website:

You can see the 10 Year TIPS is quoted as a negative yield of (currently) -0.96%.

We can get a time series of TIPS to look at expected inflation rates over two years.

In the initial Covid-19 period, inflation expectations plummeted from 1.75% to 0.50%. The market quickly realized that the US would be printing Trillions of additional dollars, with inflation expectations trending back to the previous levels. The question is whether inflation expectations can move up past 2%.

Correlating to a falling TIPS real rate is the price of Gold.

The graph shows a close correlation between the price of Gold with inverting the TIPS rate.

The US Federal Reserve cannot allow the nominal 10-year yield to rise from the current level of .79% towards the 1% to 2% level. These rates would crush the economy. If interest rates are maintained, or go lower, and at the same time inflation picks up, the TIPS rates will keep falling. The natural consequence will be for Gold prices to continue to rise.