The Yield Curve – Indicator for Economic Recessions
For the first half of 2023, markets have surged close to previous highs, rebounding from the majority of losses seen throughout 2022’s period of high inflation and recession fears. Now, positive sentiment coupled with light economic data have driven market performance in recent months, but recent stumbles despite successes in companies’ earnings have left several stumped. Approximately 79% of S&P 500 companies reported earnings that beat analysts’ expectations, with only a 0.5% rise in share price compared to the ten-year average of 1.6%. Some believe this to be the consequence of persistent economic worries, with one key recession indicator yet to show any positive forecasts. The yield curve, one of Wall Street’s top gauges for economic strength, has remained to be inverted.
The yield curve is a line plot that compares Treasury yields with similar credit quality but differing maturity dates. A typical sign of a robust economy and positive sentiment depicts a logarithmic yield curve, with longer maturity bonds depicting a larger yield as opposed to shorter maturity bonds. Yields are generally created by the consumer’s outlook on the economy, specifically on their expectations for what the Federal Reserve sets interest rates to. Currently, the yield curve is inverted, with shorter maturity bonds like the two-year note holding higher yields than longer-term notes such as the 30-year bond. Historically, inverted yield curves have predicted economic downturns and recessions, but several hope this time is different. Since 1955, an inverted yield curve has correctly predicted ten recessions with one false positive, explaining worry seen throughout the market.
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I am not a financial advisor and my comments should never be taken as financial advice. Investments come with risk, so always do your research and analysis beforehand.