(Bloomberg) – One of the US bond market’s most widely watched indicators of potential recession risk has reached levels last seen in 2007.
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Yields on the benchmark 10-year Treasury note fell as much as 12 basis points below the 2-year yield, overshadowing the 9.5 basis point gap reached in early April. The gap has been widened to around 8 .5 basis points ahead of the $10-year $33 billion auction scheduled for 1 p.m. New York time, which would create additional supply that could have a cheapening effect.
A so-called yield-curve inversion – in which long-term rates fall below shorter-term rates – is considered a potential sign of a recession, as an economic downturn will depress weak inflation and eventually lead to interest rate cuts. The spread between 2- and 10-year Treasuries is one of the most widely watched, and it is now more inverted than at any point since 2007, before the 2008-2009 financial crisis.
“Markets are focusing more on the idea that there could be a recession ahead,” said Jan Nevruzi, US rates strategist at NatWest Markets. “People don’t want to be ahead of the trend even though supply is coming.”
The current reversal comes amid growing concern that measures taken by central banks around the world to curb inflation could tip the economy into recession. That fear helped fuel a rally in Treasuries, which took the benchmark 10-year yield from around 3.5% in mid-June to around 2.92% on Tuesday. Meanwhile, the two-year yield is around 3% and has fallen from an intraday high of 3.05%.
The yield curve is likely to deepen further as the Federal Reserve focuses on tightening monetary policy until the end, said Gregory Faranello, head of US rate strategy and trading at AmeriVet Securities. inflation slows down.
“We have called for a deeper inversion, noting that Fed Chairman Jerome Powell recently stated that the central bank is not worried by the yield curve inversion,” he said. “I don’t think the inverse of -25 to -50 basis points is out of the range of possibility and historical context.”
Other segments of the yield curve are also flattening, although some remain positive, including the gap between segments on 3-month and 10-year bills. That spread, used by the New York Fed among its recession forecasting models, stands at about 74 basis points, down from a multi-year high of 234 basis points in May.
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