Inversion Talk

Typically, yield curve inversion, when long-term yields fall below short-term yields, is viewed as a signal of oncoming recession, although often with a relatively long lead. In the past five economic expansions, the U.S. economy has peaked an average of 21 months after the spread between the 2-year and 10-year yields initially turned negative.  There have also been a number of occasions in the past where an inversion occurred without a recession following.


Though some view the inversion as an ominous sign, there seems to be very few signs of danger ahead. Data shows the U.S. economy is on solid footing, retail sales rose solidly in July and beat expectations, which is a sign of consumer optimism. The U.S. productivity also grew a healthy 2.3% rate in the second quarter.  Financial conditions are still historically loose, yet there are few signs of excess in the financial system. U.S. stocks have also been resilient against yield curve inversions in the past:  Historically, the S&P 500 Index has rallied an average of 22% from the first inversion to the eventual economic peak.


While Jerome Powell remains in the hot seat, a former Fed Chair insists that things are not that bad from where she sits. Janet Yellen, who was in Powell's spot from 2014-2018, said that the inverted yield curve, which has everyone in a tizzy about a recession, could be wrong. Yellen stated: "Historically it's been a decent signal of recession, and I think that's why markets pay attention to it. But I would really urge that on this occasion it may be a less good signal."

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