When it comes to the Treasury yield curve, going inverted isn’t the “great move“ that Tom Cruise boasted about pulling off when piloting his F-14 Tomcat jet in the cult classic movie “Top Gun.“
After widening in early February, the trend has reversed with yields on two-year notes approaching those on 10-year securities again. That’s put the risk of an inverted curve, when short-term yields are higher, back on analysts’ radar. JPMorgan Chase & Co. strategists say a slight inversion seen already in money-market forward rates that serve as a proxy for the federal funds rate means it might only be “a matter of time until” the overall curve turns on its head.
The shape of the curve is not just a bond wonk matter either, given it has implications for the longevity of America’s economic recovery, bank earnings, consumer behavior and share prices. An inverted curve has preceded the majority of all U.S. recessions over recent decades.
“The curve flattening is a big deal,” said Joseph LaVorgna, chief Americas economist for Natixis North America LLC. “The market is telling you something and part of it is that overall risk-aversion is back. This comes because the Fed is taking liquidity out of the marketplace.”
If the Fed does plow ahead as they have signaled — lifting the funds rate to about 3.38% by 2020 — that will likely spark an economic downturn, Lavorgna says. And over the past three decades, recessions on average followed curve inversions by five quarters, he adds.