Lions And Tigers And Yield Curve Inversions

There are few things investors fear more than an inverted yield curve.

Why? 2 reasons…

1. The last 9 recessions in the U.S. were all preceded by an inverted curve (1-yr yield higher than 10-yr yield).

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Data Sources for all charts/tables herein: FRED, Bloomberg.

2. Weaker stock market returns tend to follow flat/inverted curves.

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Note: yield curve range is based on (10-yr yield minus 1-year yield).

In December 2018, part of the yield inverted for the first time since 2007. At month-end, the 6-month Treasury bill yield stood at 2.56%, 5 basis points higher than the 5-year yield (2.51%).

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Naturally, many investors are afraid, with 45% predicting an imminent recession in a recent poll…

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Is this a reasonable expectation? Let’s take a look at the last 3 times the yield curve inverted in a similar fashion (6-month higher than 5-year) after a long period with a positive slope…

1) In December 2005, the yield curve inverted for the first time since 2000. The S&P 500 ended the month at 1,248. What happened next?

  • The S&P 500 continued to rally for another 22 months, rising over 26% before peaking in October 2007 at 1,576 (note: price returns, does not include dividends).
  • The U.S. economic expansion continued for another 24 months before the recession began in December 2007.

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2) In August 1998, the yield curve inverted for the first time since 1989. The S&P 500 ended the month at 957. What happened next?

  • The S&P 500 continued to rally for another 19 months, rising over 62% before peaking in March 2000 at 1,553.
  • The U.S. economic expansion continued for another 31 months before the recession began in March 2001.

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3) In March 1989, the yield curve inverted for the first time since 1981. The S&P 500 ended the month at 295. What happened next?

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Disclaimer: At Pension Partners, we use Bonds as our defensive position in our absolute return strategies for all of the above reasons. Bonds have provided a more consistent defensive alternative to ...

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