Yesterday, the financial media burst into flames as the yield on the 10-year Treasury fell below that of the 2-Year Treasury. In other words, the yield curve became negative, or “inverted.”
“Stocks plunged on Wednesday, giving back Tuesday’s solid gains, after the U.S. bond market flashed a troubling signal about the U.S. economy.” – CNBC
According to CNBC’s logic, the economy was perfectly fine on Tuesday, notably as Trump delayed “tariffs” on China, since the yield curve was NOT inverted. However, in less than 24-hours, stocks are plunging because the yield curve inverted?
Let’s step back for a moment and think about this.
Historically speaking, the inversion of a yield curve has been a leading indicator of economic recessions as the demand for liquidity exceeds the demand for longer-term loans. The chart below shows the history of yield curves and recessions.
The yield curve has been heading towards an inversion for months, suggesting that something was “not healthy” about the state of the economy. In August 2018, I wrote, “Don’t Fear The Yield Curve?”
“The spread between the 10-year and 2-year Treasury rates, historically a good predictor of economic recessions, is also suggesting the Fed may be missing the bigger picture in their quest to normalize monetary policy. While not inverted as of yet, the trend of the spread is clearly warning the economy is much weaker than the Fed is suggesting. (The boosts to economic growth are now all beginning to fade and the 2nd-derivative of growth will begin to become more problematic starting in Q3)”