Federal Reserve Chairman Jerome Powell’s assertion this week that the U.S. economy remains strong is facing a stern test from the bond market, which showed a classic recession sign Friday morning.
Short-term government fixed income yields are now ahead of the longer part of the curve, delivering a strong recession indication that hasn’t happened since 2007.
The spread, or yield curve, between the 3-month and 10-year Treasury notes just broke the longest streak ever of being above 10 basis points, or 0.1 percentage point. The two maturities were last below that level in September 2007, a run of 3,009 trading days, according to Bespoke Investment Group.
The two maturities inverted Friday morning, a near-perfect sign that a recession is coming. An inverted yield curve does not mean a recession is imminent but that one is likely over the next year or so.
The three-month note yielded 2.468 percent around 10 am, while the benchmark 10-year was around 2.44 percent.
Economists see the yield move as a dark signal for an economy coming off its best year since the recovery began in mid-2009.
“Yield curves are responding to what they see, to what I believe is a global economic slowdown,” said Peter Boockvar, chief investment officer at Bleakley Advisory Group. “You don’t see this kind of move in curves, not just here but everywhere, unless you get one.”
Short-term yields moving ahead of their longer-duration counterparts is seen as a sign that growth will be higher now than it will be in the future. New York Fed research considered by many to be seminal on the spread between yields found that the most-telling relationship was between the 3-month and 10-year notes, though many market participants still watch the spread between the two- and 10-year notes, which was about 10 basis points Friday morning.
The Federal Open Market Committee, which sets monetary policy for the Fed, said Wednesday that it won’t be raising rates anytime soon — likely for at least the rest of the year — unless economic conditions change.
Powell said the U.S. economy is “in a good place” though it is facing pressure from slowdowns in Europe and China. He and his colleagues collectively lowered their expectations for GDP growth domestically, now seeing just a 2.1 percent gain in GDP for all of 2019 and 1.9 percent in 2020.
Nobel Prize winner Robert Shiller: Greater than average chance of recession in next 18 months
Bond market investors are showing they think growth could be a good deal beneath even those tepid levels. Financial markets always factor into Fed decisions, so the yield picture likely played a role in the FOMC forecast that no further rate hikes will be coming this year, even though members indicated that two were likely as recently as December 2018.
“All anyone needs to do is read the first paragraph of the Fed press statement to see that the central bank has marked down its assessment of the economic landscape – the choice of words suggests far more than the tweaking that was done to the numerical projections,” David Rosenberg, chief economist and strategist at Gluskin Sheff, said in his daily note Thursday.
Like other financial market observers, Rosenberg noted the diverse reactions between the bond and stock markets — fixed income yields are falling, indicating lower growth, while the stock market is rising.
“The stock market ma