What’s All This About the Yield Curve?Sheaff Briefs Editor
“The yield curve is not indicating a recession,” the Conference Board’s Consumer Research Center concluded. True, interest rates have begun to inch up, “flattening” the curve. Still, as Sheaff Brock Managing Director Dave Gilreath explains in April’s Knowledge Builder webinar, rates do not appear to be heading towards an “inverted yield curve” (in which short-term rates are higher than long-term rates, a situation that historically has come before a recession). According to Strategas Research, rates “should still be upward sloping by year-end.”
“In April,” reported the Federal Reserve Bank of Cleveland, “short rates continued to rise, but long rates could not quite keep pace, so the yield curve moved higher and continued to get flatter.” Using the yield curve to predict whether or not the economy will be in recession in the future, the Federal Reserve Bank concludes: “So the yield curve is optimistic about the recovery continuing, even if it is somewhat pessimistic with regard to the pace of growth over the next year.”
Is the yield curve just more mumbo-jumbo, or has it proven to be a valid prognostication tool? “This observation holds true both over time and across countries,” says Joseph Haubrich of the Federal Reserve Bank of Cleveland, referring to the rule that negative spreads precede negative growth, while positive spreads precede positive growth.
Roughly speaking, in the old days, Haubrich observes, fears of inflation meant the yield curve would be steep, because investors demanded high rates to protect themselves against inflation. “Now, with a credible Fed and a low risk premium, an inversion only signals moderately high short rates, and thus less risk of recession.”
“Interest rate movements are essentially the bond market’s way of signaling how investors feel about their future,” writes Kate Stalter in U.S. News. “When the investment outlook is good, interest rates tend to move higher to compensate investors who could earn even higher returns in risky assets like stocks.”
What’s it all about? The yield curve is just one of several economic indicators, of course, for investors to use in an effort to better understand the economy and make appropriate adjustments to their portfolios.