EC When Is The Next Bear Market? 3 Things Will Tell

Therefore, there is a high correlation between rates, the economy, and asset prices over the long term. Oil prices, trade tensions, political uncertainty, the dollar, credit risk, earnings, etc., are reflected in the interest rate for different durations of loans.

Which Yield Curve Matters

Which yield curve matters mostly depends on whom you ask.

DoubleLine Capital’s Jeffrey Gundlach watches the 2-year vs. 5-year spreads. Michael Darda, the chief economist at MKM Partners, says it’s the 10-year and the 1-year spread. Others say the 3-month and 10-year yields matter most. The most-watched is the 10-year versus the 2-year spread.

So which is it? As discussed in “Which Yield Curve Matters:”

“The best signals of a recessionary onset have occurred when a bulk of the yield spreads have gone negative simultaneously. However, even then, it was several months before the economy actually slipped into recession.”

Following the “Dot.com” crash, the entire tragic event was considered an anomaly, a once-in-a-100-year event that would not replicate again. Unfortunately, just 4-years later, in 2006, investors again were told to ignore the yield curve inversion as it was a “Goldilocks economy” and “sub-prime mortgages were contained.”

Advice to ignore yield curve inversions has not worked out well for investors.

The quad-panel chart below shows the 4-previous periods where 50% of 10-different yield curves became inverted. I have drawn a horizontal red dashed line where 50% of the 10-yield curves we track are inverted. I have also denoted the optimal point to reduce risk relative to the subsequent low.

In every case, the market did rally a bit after the initial reversion before the eventual reversal.

No Inversion Yet

The chart below is the percentage of the 10-yield spreads that are currently inverted. At the moment, that number is at zero suggesting there is no risk of a recession or “bear market.” However, as you will note, when inversions occur, they tend to happen quickly.

Historically speaking, from the time yield curves begin to invert, the span to the next recession runs roughly 9-months. However, note that yield curves are currently declining, suggesting economic growth will weaken. If this trend continues, another “inversion” would not be a surprise. 

Given the strong track record of predicting recessions historically, when the subsequent inversion occurs, the media will quickly dismiss it as they did in 2019.

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Mike Nolan 2 months ago Member's comment

Good, informative read, thanks.