Yield Curve Disinversion Is a Recessionary Warning — Evening Brief – 09.06.24
The U.S. Treasury 2-year/10-year yield curve dis-inverted on Wednesday for the first time in 26 months as a consequence of the underwhelming U.S. economic data this week. Although the curve reinverted on Thursday, the weaker-than-anticipated August U.S. nonfarm payrolls report today resulted in another round of dis-inversion, with the curve currently trading at 0.02.
The downward sloping yield curve has sparked significant debate regarding a recession that has not yet occurred, regardless of whether it pertains to the difference between the closely watched 2-year and 10-year yield spread, or even the 3-month and 10-year yield spread.
Typically, the dis-inversion happens when the Federal Reserve begins to lower interest rates or the markets start to price in aggressive cuts, otherwise known as a bull-steepening, where Treasury yields at the short end of the curve fall faster than Treasury yields at the long end.
“The disinversion in the 10-year/2-year yield spread is completely normal for this stage of the cycle, especially given the market’s aggressive expectations for rate cuts in the months ahead,” Bryan Jordan, chief strategist at Cycle Framework Insights, Inc., wrote in a commentary provided to Connect Money. “Across the last four cycles, the 10-year/2-year spread dis-inverted an average of just over five months prior to the onset of recession.”
For those who believed that the inverted curve was a reliable indicator of a recession, the inversion can indeed be a strong warning; however, it is the subsequent steepening that potentially initiates the recession countdown.
Jim Bianco, president and macro strategist at Bianco Research, recently wrote that the average duration to recession from the 3-month/10-year curve first inverting is 334 days, but only 66 days from the curve dis-inverting.
Overall, the market is still pricing in 100 basis points of interest rate cuts, but how we get there is still open for debate. Currently, there is a 63% probability of 25 basis points at the September meeting, a 94% probability of 50 basis points in November and a 52% probability of 25 basis points in December.