Frank Holmes Blog | The Yield Curve Just Inverted For The First Time In Years. Time To Reconsider Risk? | Talkmarkets
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Frank Holmes is the CEO and chief investment officer of U.S. Global Investors. Mr. Holmes purchased a controlling interest in U.S. Global Investors in 1989 and became the firm’s chief investment officer in 1999. In 2006, Mr. Holmes was selected mining fund manager of the year by ... more

The Yield Curve Just Inverted For The First Time In Years. Time To Reconsider Risk?

Date: Wednesday, December 5, 2018 12:54 PM EDT

The Yield Curve Just Inverted for the First Time in Years. Time to Reconsider Risk?

One of the most reliable indicators of an economic slowdown just flashed a warning sign this week. On Monday, the yield curve between the five-year Treasury yield and three-year Treasury yield inverted, or turned negative, for the first time since 2007. What this means is the shorter-maturity bond now pays more than the longer-maturity bond, suggesting investors believe the government is less likely to service the debt it owes in three years than in five years. Such an inversion has historically portended a recession sometime in the next six to 24 months.

Spread Between 5-Year and 3-Year Treasury Yield Turned Negative for First Time Since 2007

 

Meanwhile, the more closely watched spread between the 10-year yield and two-year yield, though positive, sat at a lowly 15 basis points on Monday, the flattest it’s been in more than 11 years. All nine recessions since 1955 have been preceded by an inversion of the 10-year and two-year Treasury yields.

I believe the flattening yield curve is just one among a number of signs that we’re entering a more risk-off investing environment (one in which investor appetite for riskier assets, such as stocks, decreases). The recent trade war ceasefire between the U.S. and China is encouraging, but challenges still persist, including rising U.S. interest rates, Brexit, skyrocketing debt and a purchasing manager’s index (PMI) that’s steadily weakened over the past eight months.

All things considered, I think it might be time for investors to consider getting more defensive as we proceed further into the later stages of this business cycle, one of the longest in U.S. history. That means making sure you have exposure to assets that have historically done well during slowdowns in the economy and capital markets. Among my favorite are precious metals, particularly gold, and short-term, tax-free municipal bonds.

Municipal Bonds Have Outperformed Higher-Risk Corporate Bonds

Municipal bonds might have a reputation for being “boring,” but personally I don’t find anything boring about potentially limiting losses in my portfolio. That’s precisely what munis managed to do lately as stocks tumbled, many of them entering correction and even bear market territory. Short-term state and local debt, as measured by the Barclays Capital 3-Year Municipal Bond Index, delivered 0.3 percent in the two months ended November 30, while high-yield and investment-grade corporate debt lost 0.2 percent and 0.4 percent, respectively. Even the riskiest munis gained, according to Bloomberg data, helping investors staunch some of the declines they might have felt in their equity allocation.

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