It has been almost four weeks since the inversion of the 3-month/10-year US Treasury yield curve, and the commotion is just now finally beginning to fade.
In some respects, the attention this event generated is understandable—inversions have preceded every US recession for the past 60 years. When the normal relationship between yields and maturities inverts, and short-term bonds yield more than longer-dated bonds, it can be a powerful warning that there’s danger ahead for the economy.
However, we do not believe this is the case for the inversion that occurred on March 19. With the US economy continuing to show moderate growth, and inflation pressures contained, we question whether this mild and short-lived inversion provides a reliable signal that a recession is on the way.
As a predictor of future economic recessions, the signal an inverted yield curve is sending grows stronger and more reliable along with increases in its magnitude, steepness and duration. The inversion itself is far less meaningful.
By this measure, the inversion that began on March 19 and ended five days later was hardly much of an inversion at all. At its steepest point, 3-month Treasury yields exceeded 10-year yields by just 6.5 basis points. The table below shows how these numbers compare to the inversions that signaled the 2007 and 2001 recessions.
Inversion |
Maximum Gap |
Duration |
March 2019 |
6.5 basis points |
6 days |
Pre-2007 Recession |
62 basis points |
1+ year |
Pre-2001 Recession |
80 basis points |
6 months |
In simple terms, the shape of the yield curve reflects the market’s outlook and expectations for both monetary policy and future economic growth. But there are also a number of other factors in play today, including:
Taken together, these influential factors lead us to agree with former Fed chairman Alan Greenspan, who recently told Congress that the US yield curve’s “efficacy as a forecasting tool has diminished very dramatically” because of such unusual economic conditions and events.
One more thing to keep in mind about inversions is that, although they have ushered in every US recession for the past 60 years, they have done a poor job of timing the start of these downturns. Since the 1960s, the average “inversion to recession” lag time has been around 14 months, ranging from a maximum of 19 months to the shortest gap of seven months.
With these considerations in mind, we believe the Fed’s recent pause in rate hikes will support continued growth in the US economy and expect the yield curve to return to a more traditional, positive slope in the future.
However, we also continue to monitor the economy for red flags.
More specifically, we are looking for any indications of these three developments taking shape:
If these three conditions appear for an extended length of time, we will be convinced that the yield curve has something important to say.
This communication is intended solely to provide general information. The information and opinions stated are as of April 17, 2019 and may change without notice. The information and opinions do not represent a complete analysis of every material fact. Statements of fact have been obtained from sources deemed reliable, but no representation is made as to their completeness or accuracy. The opinions expressed are not intended as individual investment, tax or estate planning advice or as a recommendation of any particular security, strategy or investment product. Please consult your personal advisor to determine whether this information may be appropriate for you. This information is provided solely for insight into our general management philosophy and process. Historical performance does not guarantee future results and results may differ over future time periods.
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Jeffrey S. MacDonald, CFA
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