Are investors beginning to miss the curve?
The yield curve, which measures the spread between the yields on short-term and long-term bonds, has an impressive record for predicting recessions. For those who like to count, the yield curve indicator has predicted eight out of the last eight recessions since World War II.
However, since the heavily predicted 2023 recession does not appear to be coming this year, investors may be thinking that the economy, inflation and interest rates will remain higher for longer.
Therefore, the recession that was supposed to save us from the destructive forces of higher borrowing costs is delayed.
In normal economic conditions, the curve trends upward. That means short-term bond yields are lower than long-term yields because holding an investment for a shorter time involves less risk.
Throwing a different kind of curve at investors, long bonds have risen in recent weeks. Since bond yields and prices have an inverse relationship, and longer maturities are more sensitive to rates than shorter ones, long-term bond ETFs such as the iShares $ Treasury Bond 20+yr UCITS ETF (IDTL) are down 7% over the past month.
This, in part, indicates investors are beginning to believe more in the narrative of higher-for-longer interest rates than they are the yield curve indicator pointing toward a recession.
Yield curve versus bear steepening
The long end of the yield curve (10-plus years) may be finally catching up with the short end of the market (two years or less). This is called “bear steepening,” which is a rare occurrence during a rate hiking cycle.
What does it all mean? Investors have recently sold off long-term bonds for fear of higher inflation ahead. So, investors may be ignoring the yield curve indicator for now and selling out of long-term bonds for fear of more inflation ahead.
Only time will tell but the yield curve indicator may have the final word that will come in the form of a recession. The yield curve could then possibly normalise as short-term yields fall faster than long-term yields.
This article was originally published on ETF.com
