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Thread: Yield Curve Inversion and the FED--can someone explain what's going on?

  1. #1

    Yield Curve Inversion and the FED--can someone explain what's going on?

    Bloomberg is publishing article after article about a possible depression and how the yield curve inverted. Can someone please explain this to me? I cannot visualize it. What do they mean? What's going on? And are they suggesting that the FED might have interest rates low again?

    And doesn't low interest rates mean more inflation?



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  3. #2
    Quote Originally Posted by angelatc View Post
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  4. #3
    So, have you heard the one about the “flattening yield curve?”
    It almost sounds like the start of a bad joke because there have been so many discussions during this past year on it. However, it has been largely dismissed under the “this time is different” scenario as trailing economic data has remained strong and the recent stock market struggles are believed to only be temporary.
    As I discussed yesterday, however, it is quite likely the message being sent by the bond market should not be dismissed. Bonds are important for their predictive qualities which is why analysts pay an enormous amount of attention to U.S. government bonds, specifically to the difference in their interest rates. This data has a high historical correlation to where the economy, stock, and bond markets are generally headed in the longer-term. This is because volatile oil prices, trade tensions, political uncertainty, the strength of the dollar, credit risk, earnings strength, etc., all of which gets reflected in the bond market and, ultimately, the yield curve.
    But which yield curve really matters?
    It depends on whom you ask?
    “The rate on the 2-year has already jumped above the shorter-term 5-year note, a move that suggests the ‘economy is poised to weaken,’ DoubleLine Capital’s Jeffrey Gundlach told Reuters in an interview on Tuesday. Gundlach, a noted bond investor, has been warning investors to be cautious.” – CNBC
    “Michael Darda, the chief economist at MKM Partners, says people may be too focused on the wrong data. ‘Recession forecasting is fraught with difficulty, so it’s important that we don’t make it more difficult than it has to be by focusing on the wrong indicators, or, at a minimum, less reliable one. It is the difference between the 10-year and the 1-year that everyone should worry about.” – CNBC
    “While inversions have been reliable recession indicators in the past, the most important relationship — between the 3-month and 10-year government notes — is not inverted and thus hasn’t triggered the likelihood of a contraction ahead.” – CNBC
    Wait, so which is it?
    My answer is a bit different. When I am looking at technical indicators for the market it is not just “one” signal I am looking at, but several. The reason is that sometimes a single indicator can provide a “false” signal.
    For example, the 200-dma has had several violations which did NOT lead to bigger declines. Therefore, there have been numerous articles questioning the efficacy of that moving average as an indicator. However, if you combine the 200-dma with a couple of other indicators to “confirm” the signal being sent, then some of the false readings can be removed.
    This same premise applies to the yield curve.
    While the 3-5 yield spread is currently in negative territory, it has not been confirmed by other yield spreads across the spectrum. As shown in the chart below, the best signals of a recessionary onset have occurred when a bulk of the yield spreads have gone negative simultaneously. However, even then, it was several months before the economy actually slipped into recession.

    However, as I addressed previously, as with all measures, technical or otherwise, it is the trend of the data which is more important to your outlook than the actual number itself.
    It is correct that the longer-dated yield curve has not turned negative as of yet. However, the market is already beginning to adjust to the reality the economy is beginning to weaken, earnings are at risk, valuations are elevated, and the support from Central Banks has now reversed.
    So, which one am I watching?
    All of them.


    More at: https://www.zerohedge.com/news/2018-...really-matters
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  5. #4
    The past couple weeks pundits from all over the financial community have been chiming in on the yield curve inversion.
    As a recap: yield curve inversion is kinda this upside down world where the front months of a bond are priced lower (higher yield) than the longer dated maturities. It's bass-ackward because we'd expect to be paid more for duration risk, not less.
    Ok, so what? What does that mean?
    In short, the market expects a recession. That's why it's inverted. Lower growth means lower rates.
    A recession would bring the Fed to the "easing" table and rates would plunge again. This is why further out the duration curve bonds are now being priced at a lower yield than shorter duration. Yield inversion. Got it?
    Certainly bond traders are smart. Smarter than equity traders. Disagree all you like, that's just the way it is so this warrants our attention.
    Plus, it's a truism in the investment world that it's never different this time.
    And just look at how investors have been educated. Most any bond trader still working the tape today has experienced a near linear path which is another reason returning to this thesis is a very easy one to return to. Don't believe me? Take a look. It's been a one way street, and going up against it has proven more painful than stepping on a Lego in the night on the way to the loo. Just ask any bond trader who's been short in the last couple of decades. Horrible stuff.
    Putting a recession aside, I think there is a bigger problem for investors to be chewing their fingernails on. The implications of more easy monetary policy.
    Returning to our truism "it's never different this time". Something else that's equally "never different this time" is that governments never pay off unsustainable debt. Nevaaahhh!
    Which brings up a question:
    How much more debt can the world's sovereigns add to their balance sheets before something falls over?
    To make it easy for you, here's a visual of a few select countries sovereign debt situations today. In all honesty, I don't need to show you the charts. You've seen them all before. It's more than we've ever experienced and then some.
    I'm sure some more debt can be added. But how much? Obviously I don't know and nobody else does either. That's the problem.
    This part of the equation is unknown because it is truly different this time. We've never been here before. Literally. So you can throw out all the textbooks on this stuff because there is no precedent.
    As I mentioned multiple times before in these pages, the biggest reason for this phenomenal bond bull has been a global political and economic coordination between the world's major countries and central banks.
    The likes of which we've never seen before. EVER. And as mentioned when discussing the rise of "strong men", we're now in a quite different world than the last time we had a crisis to deal with (2008)

    More at: https://www.zerohedge.com/news/2018-...sion-happening
    Never attempt to teach a pig to sing; it wastes your time and annoys the pig.

    Robert Heinlein

    Give a man an inch and right away he thinks he's a ruler

    Groucho Marx

    I love mankindÖitís people I canít stand.

    Linus, from the Peanuts comic

    You cannot have liberty without morality and morality without faith

    Alexis de Torqueville

    Those who fail to learn from the past are condemned to repeat it.
    Those who learn from the past are condemned to watch everybody else repeat it

    A Zero Hedge comment

  6. #5


    Bond prices move inversely to interest rates (higher bond prices means lower interest rates and vice- versa). Interest rates were falling for a long time because the rate of inflation was also falling. The rate of inflation peaked at 10% in 1980 and has been falling and interest rates use inflation as one of their components so as inflation falls so do interest rates. As interest rates fall, bond prices tend to rise. Now interest rates are starting to rise slowly. Zerohedge always says things are about to collapse. Eventually they may be right.

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