Traders work on the floor of the New York Stock Exchange
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The yield curve, which flashed the biggest recession signal in more than 10 years and sent shock waves through the financial markets just a few months ago, is now signaling things are just fine. In fact, it’s saying things are more than just fine, it’s pointing to a faster economy ahead.
The spread between the 2-year Treasury yield and that of the 10-year note climbed to 28.7 basis points on Wednesday, its highest level since November 2018. This move is called a steepening by financial pros and a reversal from the inversion (short-term rates rising above long-term yields) that triggered fears.
“The Fed is on hold, the economy is doing well, and trade tensions aren’t increasing. In such a world, a steeper curve follows intuitively,” Ian Lyngen, BMO’s head of U.S. rates, said in a note Wednesday.
An escalated U.S.-China trade war, slowing global growth and weaker U.S. data prompted the Federal Reserve to cut interest rates for three straight times in 2019. The action helped undo the yield curve inversion by lowering short-term rates and goosing expectations for future economic growth, which raised long-term rates.
The benchmark 10-year yield has risen about 40 basis points since the beginning of October as investors fled safe haven assets. And investors have turned even more bullish on the economy as the U.S. and China reached an initial agreement and economic conditions have improved.
That’s a long way from where we were over the summer. The yield curve inversion caused the Dow Jones Industrial Average to tank 800 points on Aug. 14, posting its worst percentage drop of the year.
“A resilient consumer will continue to drive moderate levels of growth and recession risks remain muted,” Michael Fredericks, head of income investing at BlackRock, said in a note Wednesday.
The chance of recession in the next year fell to the lowest level since June, according to respondents to the December CNBC Fed Survey. GDP is forecast to remain at 2% over the next two years, the survey, which polled 43 fund managers, strategists and economists, showed.
"The Fed is on hold, the economy is doing well, and trade tensions aren’t increasing. In such a world, a steeper curve follows intuitively," said one analyst.