If you study the difference between real or inflation adjusted treasury yields as measured by TIPS and nominal or non inflation adjusted yields you come up with inflation expectations. The Fed has specifically referenced this analysis leading up to QE2. In fact the deflationary trend as measured by TIPS in the summer of 2010 was the basis for expanding their balance sheet.

As the data shows QE did in fact raise inflation expectations. What I found odd was in the summer of 2011 when QE3 was being discussed the same deflationary threat was back yet the Fed backed off from discussing treasury TIPS and scaled down their QE3 rhetoric. To me that was the tell that QE3 barring some major economic reversal is not going to happen.

Adding to that argument is the recent analysis I just did that shows inflationary pressures are in fact on the rise. Notice the inflation expectations on the chart below across the yield curve as they are clearly rising. Other than the five year the rest of the curve is now above the 2% inflation threshold of the Fed. This will pressure any additional balance sheet expansion and other dovish monetary policy.

By Tony Pallotta

http://macrostory.com/

Bio: A Boston native, I now live in Denver, Colorado with my wife and two little girls. I trade for a living and primarily focus on options. I love selling theta and vega and taking the other side of a trade. I have a solid technical analysis background but much prefer the macro trade. Being able to combine both skills and an understanding of my "emotional capital" has helped me in my career.

© 2012 Copyright Tony Pallotta - Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

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