April 9, 2019
A few weeks ago, we had a one-day precipitous drop in the stock market which was blamed on the appearance of an inverted yield curve, which for some analysts signals that a recession can be on the horizon. This begs two questions. First, what is an inverted yield curve? Simply, an inversion occurs when long-term rates become lower than short-term rates. Typically, long-term interest rates are higher than short-term rates. When you go to the bank and you tie up your money in a CD for a longer period of time, you expect the bank to pay you a higher rate for the longer term.
Second, why is an inversion seen as a harbinger of bad times? Inverted yield curves typically occur sometime before recessions because the markets see slower growth ahead, which causes long-term rates to fall. Short-term rates will fall only when the Federal Reserve Board trims their benchmark rates. Thus, today the markets are predicting a slowdown in growth, but the Fed has not lowered short-term rates as they have only just declared that they are just about done raising short-term rates. We have actually seen a flat yield curve for the past several months, and the Feds more recent statements about ending their increases has helped bring long-term rates down even further.
Here is the point. While an inverted yield curve can be a predictor of recessions and slower growth, predictions are never guaranteed. To see real evidence, we should look at the economic indicators. A very important indicator was released Friday. The jobs report showed 196,000 jobs added in March. Following a weak February report, this has relieved many analysts who thought February was a harbinger that the slowdown was already here. For the first quarter we added an average of 180,000 jobs per month, subject to two future revisions. Again, no guarantee that even a mild recession is on the horizon, but an indication that employment growth has slowed from the brisk pace of last year.
Source: Origination Pro
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