One of the bond market’s most reliable recession indicators reached a new milestone on Tuesday, by trading at its most negative level since the first year of Ronald Reagan’s term as U.S. president.
The spread between 2-
and 10-year Treasury yields
ended the New York session at minus 76 basis points. In other words, the 10-year yield traded 76 basis points below the yield of the 2-year note. That’s the most deeply inverted level since Oct. 5, 1981, when the spread dropped to minus 79.4 basis points and the fed-funds rate was around 19% under then-Federal Reserve Chairman Paul Volcker.
The yield curve is a line plotting out the differences in yields across maturities. Typically, it slopes upward because investors demand more compensation to hold a note or bond for a longer period, given the risk of inflation and other uncertainties. Inversions along certain parts of the curve are widely regarded as reliable recession indicators.
The deepening inversion comes as traders fret about more COVID-19 incidents in China, where more than 253,000 cases have been found in the past three weeks, according to the Associated Press. China is the only major country still trying to curb the virus through widespread restrictions on movement and mass testing: Beijing, for instance, has locked down parks, districts, stores and offices.
The prospect of reduced demand from one of the world’s largest economies, plus ongoing fears of a U.S. recession in 2023, was “evident across multiple asset classes” on Monday, with the S&P 500
dropping 0.4% and WTI oil touching levels not seen since January, according to a team at Deutsche Bank. While all three major stock indexes rebounded along with oil on Tuesday, the 10-year Treasury yield dipped 6.8 basis points to just under 3.76% — which led to the deepening inversion against the 2-year rate.
The 2y/10y spread has been below zero since July and isn’t the only bond-market gauge flashing a warning about an approaching U.S. recession: Other parts of the Treasury curve are also inverted, such as the spread between 3-month
and 10-year rates and the gap between 5-
and 30-year yields
In October 1981, Ronald Reagan was in his first year as president, the annual headline inflation rate from the consumer-price index was above 10%, and the U.S. economy was in the midst of what would turn out to be one of the worst downturns since the Great Depression, triggered by the Fed’s tight monetary policy under Volcker.