The Treasury yield curve continues to widen, with no signs that the trend is nearing an end.
The Federal Reserve raised the federal-funds target rate by 75 basis points, from 1.50% to 2.25%, last week. Yet the rate is still 75 basis points below the yield on the two-year Treasury note. (A basis point is 1/100th of a percentage point.)
If the Fed is serious about bringing down the inflation rate to the 2%-3% area, then it would have to further raise the fed-funds rate target. The consumer price index is climbing at a 9%-plus annual rate, and even the Fed’s preferred measure—the personal consumption expenditure index—is climbing at an almost 5% annual rate.
With the Fed raising short-term interest rates, the bond market is signaling that their efforts will put the economy into recession—if it hasn’t begun already. Long-term interest rates are now lower than short-term ones. Every recession has been preceded by short-term rates pushing above long-term interest rates.
Below we show the difference between the two-year T-note yield and the 10-year T-bond yield. The monthly chart shows that the two-year yield is 3/8 of a percentage point higher than the 10-year yield. At its current level, the inversion is wider than it was in 2006-07—just before the housing crisis began. And it is within striking distance of 2000, when the two-year yield was half a point higher than the 10-year yield.
The investment implications: Overweight biotech and healthcare stocks and avoid stocks with high price/earnings ratios. An inverted yield curve signals that a recession is on the horizon, and in a recession, industries whose fortunes aren’t tied directly to the economy and have demographic tailwinds (such as biotech and healthcare) won’t be affected adversely. And in a slowdown, high-P/E stocks are often at greater risk for reporting earnings that fall short of expectations.
Andrew Addison is the author of The Institutional View, a research service that focuses on technical analysis.
The Inverted Yield Curve Is Back. What Investors Need to Know.
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The Federal Reserve building in Washington.
Joshua Roberts/Bloomberg
The Treasury yield curve continues to widen, with no signs that the trend is nearing an end.
The Federal Reserve raised the federal-funds target rate by 75 basis points, from 1.50% to 2.25%, last week. Yet the rate is still 75 basis points below the yield on the two-year Treasury note. (A basis point is 1/100th of a percentage point.)
If the Fed is serious about bringing down the inflation rate to the 2%-3% area, then it would have to further raise the fed-funds rate target. The consumer price index is climbing at a 9%-plus annual rate, and even the Fed’s preferred measure—the personal consumption expenditure index—is climbing at an almost 5% annual rate.
With the Fed raising short-term interest rates, the bond market is signaling that their efforts will put the economy into recession—if it hasn’t begun already. Long-term interest rates are now lower than short-term ones. Every recession has been preceded by short-term rates pushing above long-term interest rates.
Below we show the difference between the two-year T-note yield and the 10-year T-bond yield. The monthly chart shows that the two-year yield is 3/8 of a percentage point higher than the 10-year yield. At its current level, the inversion is wider than it was in 2006-07—just before the housing crisis began. And it is within striking distance of 2000, when the two-year yield was half a point higher than the 10-year yield.
The investment implications: Overweight biotech and healthcare stocks and avoid stocks with high price/earnings ratios. An inverted yield curve signals that a recession is on the horizon, and in a recession, industries whose fortunes aren’t tied directly to the economy and have demographic tailwinds (such as biotech and healthcare) won’t be affected adversely. And in a slowdown, high-P/E stocks are often at greater risk for reporting earnings that fall short of expectations.
Andrew Addison is the author of The Institutional View, a research service that focuses on technical analysis.
Write to [email protected]
Source: https://www.barrons.com/articles/inverted-yield-curve-is-widening-51659652470?siteid=yhoof2&yptr=yahoo