An inverted yield curve has historically been the most accurate indicator of an impending or concurrent recession. The inversion during late 2006 and most of 2007 is a good example. Studies have shown that curve inversions precede a recession anywhere from 6 months to 2 years. I would argue that, stripping away the affects of inflation and data manipulation, real economic activity has been somewhat recessionary for several years.
The shelf-life of financial topics is about as long as the lifespan of a mayfly (about 24 hours). Several months ago, a debate raged about the significance of the inverted yield curve (short term rates are higher than longer term rates). Most perma-bull pundits who populate mass financial media advised their minions to ignore the yield inversion because “it’s different this time.”
The inverted yield curve discussion disappeared soon after the stock market responded to the stock market intervention after the Christmas massacre. However, over the past several days, the yield curve has “collapsed” in the sense that yields at the long end (10-years and beyond) have fallen more sharply than at the front end of curve, resulting in a yield curve inversion that is now at its steepest since 2007 (measured using the 3-month T-bill rate vs the 10-year Treasury yield).
The chart to the right was prepared by Phoenix Capital (with my edits). It shows the SPX from 1999 to present on a weekly basis vs the the yield curve (3-month T-bill minus the yield on the 10-yr Treasury bond). When the blue line in the bottom panel goes below the black line (the black line is my edit to clarify when the spread between the 3mo Bill and 10yr Treasury has gone negative), the yield on the 3-mo Bill is higher than the yield on the 10yr Treasury.
The chart must have been prepared prior to the holiday weekend because the 3-mo/10yr has been inverted since Monday. But more to the point, you’ll note that this particular “flavor” of inversion was accompanied by a sharp drop in the stock market from 2000-2003 and from 2007-2009. The yields have been inverted between other segments of the curve (1yr to 5yr, for instance) nearly continuously since last summer. The curve is even more inverted now than when I wrote this commentary for my Short Seller’s Journal subscribers last week. The 5yr Treasury is well below 2%. The 3mo/5yr inversion is close to half a percentage point (46 basis points).
In addition, the upper bound of the Fed Funds rate “target” (2.25-2.50%) is now above the entire yield curve out to 10 years. The bond market is signaling to the Fed that the economy sucks and the Fed Funds rate needs to be reduced down to at least 2%. The term “bond market vigilantes” was coined originally by Ed Yardeni in the early 1980’s to convey the idea the bond market could be used to “guide” the Fed’s monetary policy implementation. The “bond vigilantes” right now are “screaming” at the Fed to reduce the Fed Funds rate and to ease monetary policy.
While the market can’t dictate the Fed Funds rate, big bond funds with a total rate of return mission will pile into the Treasury bonds at the longer end of the curve, driving down yields (bond prices rise) in the expectation that the Fed will have to cut rates sooner or later. This is the market dynamic that induces an inverted curve.
Whether or not the Fed will “listen” to the bond market and cut the Fed Funds rate at the midJune FOMC meeting remains to be seen. To be sure, the researchers at the Fed who advise on policy know that the real rate of inflation is significantly higher than CPI-measured inflation. They also know the economy is reeling. But the Fed has to balance easier monetary policy with setting policy that supports the U.S. dollar.
Maintaining a stable dollar is critical to inducing foreign money to buy Treasuries, the supply of which will soar once the debt ceiling is lifted. If the Fed cuts rates too soon or too quickly, especially relative to the ECB or PBoC, the dollar could experience a not insignificant sell-off. This in turn would cause further damage to the economy.
The above commentary is an excerpt from my latest Short Seller’s Journal. Each week I present detailed analysis of weekly economic reports. In addition, I provide specific short ideas along with suggestions for using options to short stocks synthetically. You can learn more about this newsletter here: Short Seller’s Journal information
Dave, to help substantiate your thesis I offer the technical
analysis portion . Regardless of your personal feelings, Clive
is a very good analyst. I think the case for gold and especially
silver is quite compelling. Enjoy the information and thanks
for your well written insight(s).
I’ve followed Maund’s work on and off for about 17 years. He’s good when he tells you what you want
to hear and it works, he’s bad when he tells you what you want to hear and it doesn’t work. Those
of us who have been around since the start of the bull in 2001 understand that in a market with extreme
intervention, like the pm’s, t/a is largely ineffective except maybe in very short time intervals
“….understand that in a market with extreme
intervention, like the pm’s, t/a is largely ineffective except maybe in very short time intervals”.
Would you say that extends to technical analysis of the stock/equities markets as well?
The manipulation of PM went to extremes when the Trump administration came to power. I have not seen a single day without drastic interventions and I estimate that roughly a third of all turnover at the COMEX is market manipulation. The good thing is that the regulars understand this. For the trained eye, the “falling daggers” are easy to spot and this makes the manipulation ever more difficult. The enormous defaults on the delivery of PM, disguised as Exchange For Physical (for gold 6.000 tons and for silver almost three times annual mine production, all for 2018) tell a tale. I guess that the Cartel has economic hit men aka jackals placed beside almost every central banker of the western world. Ready to blow their brains out if they dared to hit the “delivery button”. It will be people like Sam Zell who are utterly fearless and cunning, who will destroy this racket.
I don’t think it will be people like Sam Zell that destroys the markets. I think it will be the millions of little people that save in silver and gold bullion. Millions of Chinese, Americans, Europeans, Asians, Russians, Indians etc.. the metals go into a safe or a hole in the ground never return for decades at a time. That’s why the psychology of the stock and bond markets are so important. If those two markets fail then investors will know the ponzi is over and try to pull their “wealth” into the metals. Did you know China has had 10 different currencies over the last one hundred years? Did you know India has been devaluing their rupee ever since they broke away from Britain? That’s 2.5 Billion people that know the value of precious metals. They’ll Hoover up every ounce they can buy, because they know for a fact that their fiat is going to fail at some point in the future. Based on the gyrations of the U.S. government I suspect something big is coming. I see..Government policies based on fearful thinking. That has me very worried.
The sentiment is changing against them and gold is winning
Everywhere we can look conditions are worsening and now hardly anybody is believing their bullshit anymore.
We are closer and closer to the edge. Got Gold? or you going to miss it.
Last year after Dow went down more than 800 points , somebody bought all gold coins from Sydney store in few minutes. Got the picture?
Hi Dave. Here is a very short guide that lays out the future and shows that owning gold is a life saver.
Stage One: The deflationary shock. Big spike in bankruptcies either because cash strapped households are pushed over the edge by rising prices for essentials or mass bankruptcies of over-leveraged corporations. Likely both.
Stage Two: Governments face huge budget deficits due to declining tax receipts and drastically rising expenditure (the dole, bailouts etc). This will be financed by massive money printing
Stage Three: The depression has destroyed most of the economy. There is no backing for the currency left. Declining currency values trigger more money printing, triggering more declining currency values… The paper money system is toast. Without PM or something to barter you will starve.
In your Stage Two example you are referring to the federal government[s] and their ability to print or digitally create currency [dollars, euros, pounds, etc.]. Local, county, state, provinces…every government below federal/sovereign doesn’t have that luxury or delay tactic at their disposal.
It is different this time. The fall will be from a higher point.