Treasury Yield Curve Inversion Deepens
The US Treasury yield curve has flattened since the middle of June and became inverted in July 2022.
Prior to this in April 2022, the 2Y yield did also rise above the 10Y yield marking the first inversion since the Covid-19 pandemic. But it was only momentarily, just a single day. Now, it looks set to stay. The 10Y yield sank from 3.43% to 2.6% as of 1 Aug 2022. This is in sharp contrast to short-term yields below one year which have continued to rise.
If we zoom in to look at the spreads between the yields of the 10Y vs the 1Y and the 2Y, they have been narrowing till they sank into negative territory in July 2022 (yield curve inversion). This was due to increasing recession risk. As of now, GDP already clocked its second quarter of negative growth although other aspects such as job markets are still holding up.
Given the euphoric rally last month, the stock market is reacting as if the worst is over. Bond markets, however, seemed to suggest otherwise given the degree of deepening inversion. Now, inflation is still a big uncertainty in the backdrop. Although the expectation has come off its highs, there are signs of it ticking back up. It not only has to come down, but it also has to come down fast enough. And Fed is still on the lookout for a softening labor market which is still on the cards. In a recession, unemployment can peak and last into recovery.
So who is getting ahead of the other here?