Inverted Yield Curve Signals Upcoming Recession
It happened this past Friday. The 10-year and 3-month Treasury yields inverted for the first time since 2007. What does this really mean, historically? A yield curve is considered inverted when longer-term debt has a lower yield than shorter-term debt. This is the opposite of what’s normally the case, and inversions don’t happen very often at all. When one does happen, it’s considered to be a rather dependable signal of an upcoming recession.
Though this signal has indeed been found to be reliable, the timing can be uncertain. The onset of such a recession can often range from several months to a couple of years after a yield curve inversion.
Bond Yields Inverting and Converging
The chart above clearly shows an inversion occurring on Friday. It also should be noted, though, that when many economists and investors warn about inverted yield curves, they’re often talking about the 10-year and 2-year yields, not the 10-year and 3-month. That said, the U.S. Federal Reserve sees the 10-year/3-month as the most relevant. Also, even though the 10- and 2-year yields have not yet inverted, the spread between the two has recently become the narrowest that it’s been since 2007. This means that an impending inversion is a clear possibility.
Recession Signal Exacerbates Economic Growth Concerns
Friday’s yield curve inversion gave investors a solid dose of the jitters. It helped to exacerbate increasing market concerns about slowing global economic growth. Stocks took a sharp nosedive on Friday, prompting the S&P 500 to fall 1.90%. This was the worst single day for the benchmark index since early January.
While the recession signal is quite clear, this shouldn’t be a time to panic – yet. As noted, recessions historically don’t happen immediately after yield curve inversions. And typically, stocks continue to rise after an inversion and before a recession actually hits.
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Disclosure: At the time of this article’s publication, we have no position in any security or trade/investment mentioned, nor do we have any business relationship with any company whose stock may be mentioned.
Senior Market Analyst at The Technicals
A veteran global macro trader/analyst, Bart focuses on major market moves in currencies, commodities, fixed income, and global equity indexes. Bart stresses inter-market correlations and dynamics while keeping a close eye on risk. He has published countless market analysis pieces and has been a guest expert for a variety of major financial media. Contact Bart