TREASURIES-U.S. yields edge higher amid retail earnings, diverging indicators

(Adds details, updates prices) By Davide Barbuscia NEW YORK, Aug 16 (Reuters) - U.S. Treasury yields edged higher on Tuesday on the back of encouraging data from American retail giants, which suggested the Federal Reserve has room to further tighten financial conditions as it battles four-decade-high inflation. Top U.S. retailer Walmart nudged up its annual profit forecast on Tuesday, while Home Depot surpassed estimates for quarterly sales. "I think there's an element of positivity out there from the Walmart numbers," said Padhraic Garvey, global head of debt and rates strategy at ING Americas. "I think there's a feeling that this economy has got a bit of gas to it still, and while that's a good thing what it means is that the Fed has got a job to do," he said. Benchmark 10-year Treasury yields rose to 2.822% from 2.791% on Monday, while two-year note yields climbed to 3.249% from 3.203%. The U.S. central bank has raised its benchmark overnight interest rate by 225 basis points since March and is expected to raise its policy rate by another 50 or 75 basis points at its next meeting on Sept. 20-21. The rapid tightening of financial conditions, however, has led investors to weigh inflation concerns against recessionary fears, with markets oscillating between the two narratives. Data last week signaled a possible peak in inflation, and a report from the Commerce Department on Tuesday showed U.S. homebuilding fell to the lowest level in nearly 1-1/2 years in July, weighed down by higher mortgage rates and prices for construction materials. But while housing is struggling, production at U.S. factories increased more than expected in July, according to a report from the Federal Reserve on Tuesday, despite the high interest rate environment. "The 0.6% month on month rise in industrial production in July was much stronger than we expected and provides another clear sign that the economy is still in expansionary territory," Capital Economics said in a note. But it added that weaker homebuilding last month "highlights that Fed tightening is already taking a much greater toll on some sectors of the economy." For Garvey at ING, weaker housing data was not enough to suggest a slowdown in the Fed's tightening path. "The Fed is far from done, and if that's true we're going to go through a period where bond yields are under rising pressure," he added. Fed funds futures traders on Tuesday were pricing in a 59.5% chance of a 50-basis-point hike in September and a 40.5% chance of a 75-basis-point increase, unchanged from Monday. They expect the fed funds rate to peak at 3.65% in March. The closely watched yield curve between two- and 10-year notes - viewed as a reliable indicator that a recession will follow in 12 to 18 months - was at minus 43.1 basis points on Tuesday. It reached minus 56 basis points on Wednesday last week, the deepest inversion since 2000. August 16 Tuesday 3:00PM New York / 1900 GMT Price Current Net Yield % Change (bps) Three-month bills 2.6075 2.6614 -0.003 Six-month bills 3.0275 3.1173 0.010 Two-year note 99-136/256 3.249 0.046 Three-year note 99-208/256 3.1911 0.058 Five-year note 99-14/256 2.9564 0.043 Seven-year note 98-68/256 2.9021 0.038 10-year note 99-96/256 2.8222 0.031 20-year bond 99-4/256 3.3181 0.006 30-year bond 97-208/256 3.1127 0.016 DOLLAR SWAP SPREADS Last (bps) Net Change (bps) U.S. 2-year dollar swap 29.75 -0.50 spread U.S. 3-year dollar swap 11.00 -0.75 spread U.S. 5-year dollar swap 3.00 -0.25 spread U.S. 10-year dollar swap 4.00 0.50 spread U.S. 30-year dollar swap -32.25 0.50 spread (Reporting by Davide Barbuscia; Editing by Paul Simao and Ken Ferris)