Seven weeks ago, we joked a "triple-top" pattern was developing in our chart tracking the probability of recession developing in the U.S. over the next twelve months. A lot of things have happened in the weeks since, but today we can confirm that not only has that triple-top developed, its third peak will reach its maximum level either today or tomorrow. Unless something really unexpected happens, it will not be followed by a fourth peak at the elevated levels of the last three. The triple-top pattern is now locked in.

In the arcane art of technical analysis for stock prices, a triple-top pattern "signals the asset may no longer be rallying, and that lower prices may be on the way." In the context of a chart tracking the probability of recession, the formation of a triple top pattern would apparently signal the probability of recession in the months ahead is no longer rising and will fall.

Good news, right? Maybe not so much when you know how the probability of recession is defined. For the method we've been tracking, a given recession probability represents the odds that a 12-month period after the date of interest will contain the month in which the National Bureau of Economic Research will someday identify as the month in which a period of expansion for the U.S. economy peaked before entering into a recession.

If you look at the following chart tracking the probability of recession since 30 April 1983, the period from July 2024 through September 2025 represents the most likely period in which the NBER will say the U.S. economy peaked before beginning a period of contraction.

(Click on image to enlarge)

So how can we say that the third peak of the triple-top pattern will be set either today or tomorrow?

That's because the Federal Reserve is set to start reducing the Federal Funds Rate it controls, which it will announce on Wednesday, 18 September 2024. The main question at this point is how big will that reduction be.

That matters to the recession forecasting method we follow because the Federal Funds Rate is one of two main inputs for the calculation. The other input is the spread between the yields of 10-year and 3-month constant maturity U.S. Treasuries. In the model, if the Treasury yield curve spread is held unchanged, simply reducing the Federal Funds Rate will automatically reduce the probability of recession it projects.

That method was presented in a 2006 paper by Jonathan Wright while he worked at the Federal Reserve Board. Now a professor at Johns Hopkins University, he was recently interviewed on the meaning of what his recession forecasting model anticipates:

“... the current circumstance where the Fed has deliberately restrictive monetary policy to reduce inflation is exactly the economic story behind why the slope of the yield curve does have forecasting power for recessions,” he said in an email to MarketWatch.

He said 70% “is way too high” a number, but there’s what he calls a material risk that tight monetary policy could tip the economy into a recession.

“There is a risk of a slowdown and some risk of a recession, not imminently, but in the next few quarters. With inflation essentially at target that is going to make the Fed ease up on the brakes a little bit,” says Wright.

Wright also acknowledged his method can produce false positives. While he cites 2019, in which his model's forecast of recession peaked a little over 11% in September 2018, perhaps a better example would be its peak in 1984, when it spiked up to over a 60% level but no recession followed in 1985.

Regardless, we should have a good idea sometime in the next 12-months of whether the triple-top pattern qualifies as either a real or false positive. For what it's worth, some politicians are so spooked by the prospect of a U.S. recession they are using their influence to push the Fed toward a large rate cut to try to avoid that outcome. We'll show you part of why they are so spooked tomorrow, when this link becomes active....

Analyst's Notes

The Recession Probability Track is based on the Federal Reserve Board's yield curve-based recession forecasting model, which factors in the one-quarter average spread between the 10-year and 3-month constant maturity U.S. Treasuries and the corresponding one-quarter average level of the Federal Funds Rate. If you'd like to do that math using the latest data available to anticipate where the Recession Probability Track is heading, we have provided a tool to make it easy to do.

We will continue following the Federal Reserve's Open Market Committee's meeting schedule in providing updates for the Recession Probability Track until the U.S. Treasury yield curve is no longer inverted and the future recession odds retreat below a 20% threshold. We're curious to see how this forecasting method performs.

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