February 24, 2020

What the Inverted Yield Curve Doesn't Mean

“The yield curve’s inverted! The yield curve’s inverted! That was the news I awoke to last Wednesday on CNBC as the 10 year Treasury note yield dipped below the 2 year yield for the first time since 2007. That’s the sign everyone has been waiting for, the definitive recession signal that says get out while the getting is good. And that’s exactly what investors did all day long, the Dow ultimately surrendering 800 points on the day. I don’t remember anyone on CNBC mentioning it – although surely they must have – but by the end of the day the curve actually ended up back in positive territory, the inversion lasting less than a day. So, never mind. Maybe.

Of course, the 10/2 curve is only a small slice of the yield curve and other parts have been inverted for some time. Indeed the Fed’s research says the 10 year/3 month curve inversion is the most accurate for predicting recession and it has been inverted since May, although you can be excused for not knowing that since no one seems to care. No, the one that gets everyone’s attention is the 10/2 curve, the granddaddy of all the yield curves because, well, just because, okay? It’s the curve everyone is watching and the people watching the people who are watching it think it’s the curve the watchers think is most important, so when it inverts, well you just have to sell because you don’t know how long the watchers of the curve watchers are going to wait before they get worried that all the watchers of the watchers of the curve watchers are about to sell, so sell and ask questions later because Lord knows I’d rather be early than late, right?

Is it possible that there is anyone left in America who doesn’t know the yield curve inverts prior to recession? Based on the recent experience of one of our partners, I’m going to climb out on a limb and answer a resounding no. This partner bought a house a few years back and recently had to replace a door. It’s an older house and the door is a non-standard size so he called a door company who promptly sent someone out to hang a new, custom door. The installer noticed the partner was watching the market and a conversation ensued in which the door installer talked at length about the importance of the yield curve and how things were bound to get worse now that the inversion had arrived. Sell your stocks, he warned the partner, and buy bonds.”

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