Yield curve inversion = Imminent recession?
Since 1960, every recession was preceded by an inversion, but not every inversion led to a recession
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BEARS love indicators to justify their gloomy outlook. The aptly named "Death Cross" is one of the favourites of technical analysts, while an inversion of the yield curve is a favourite of fundamental analysts and economists.
The yield curve is simply the yields for different maturities, generally referenced to US Treasuries as the risk-free rate that sets the benchmark for global bonds. When plotted as a chart, it shows the relationship of yields at time intervals. Under normal conditions, this graph is an upward sloping curve. This makes perfect sense: investors who buy a 10-year maturity bond would expect a higher yield compared to a 2-year bond, as they are taking more risk.
As one might imagine, it is unusual for the 10-year maturity to instead yield less than the 2-year. This situation occurs when markets start pricing in future interest rate cuts. Since this is a normal response from central banks during economic recessions, it causes forecasters to equate yield curve inversions with bear markets.
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