Another US recession?
With 678,000 jobs in the US added in February it might seem a little perverse to be considering the chances of a recession. Yet on Tuesday 29 March, an unusual and perhaps worrying event occurred — the US Treasury yield curve inverted.
If that seems a bit technical, abstract, and remote, let’s try to figure out its possible implications for your wallet. They could be profound.
The ‘yield curve’ plots the potential yield of all US Treasury securities — bonds, notes and bills. These financial instruments are widely regarded as the safest protection on the block, because they are backed by the US government. They are regarded as the safest place to park your investment; so their yields (the measure of the return an investor can expect) are rather low. These instruments have different maturities (the date at which the instrument becomes due for repayment of the principal and any due interest). The maturities for bills are one month to one year, notes from two years to 10 years, and the bonds are 20 and 30 years. The overall Treasury market is valued at $23 trillion.
The yield curve plots the yield of all Treasury securities.
Typically, this curve slopes upwards because investors expect more compensation for taking on the risk that rising inflation will lower the expected return from owning longer-dated bonds. So a 10-year note typically yields more than a two-year note because it has a longer duration. Yields move inversely to prices.
A steepening curve usually indicates expectations of stronger economic activity, higher inflation, and higher interest rates. A flattening curve can mean the opposite: it suggests that investors expect rate increases in the near term and have lost confidence in the economy’s growth outlook.
Parts of the yield curve are seen as recession indicators, primarily the spread between the yield on three-month Treasury bills and 10-year notes and the two-year to 10-year (2/10) curve. On Tuesday 29 March, the 2/10 part of the curve inverted, meaning yields on the 2-year Treasury were actually higher than the 10-year Treasury.
For some, this inversion — however brief — was a warning. Historically, such an inversion has frequently preceded a recession — since 1900 there have been 28 times when the yield curve has inverted, and in 22 of those cases a recession has followed. When the two-year yield rises above the ten-year yield, it means that investors anticipate a sharp rise in interest rate in the short term; this ‘roaring economy’ will be undermined by the Fed pushing up rates. Because of the inevitable time lags, the raising of interest rates will not induce a recession this year but next.
The government response to the Covid-19 pandemic — shutting most things down — created the most recent recession, according to the National Bureau of Economic Research (NBER — the body that’s the official arbiter of when recessions start and end in the US) but it was the shortest on record, at just two months. A recession is defined as two consecutive quarters of negative growth in gross domestic product (GDP).
The past of course is no guide to what might be going on now. Morgan Stanley strategists say: “We think markets are learning to live with yield curve inversion… The inversion of the yield curve, on its own, is not sufficient to argue for heightened recession risk in the near term… Discussions of an impending recession will continue, but we expect confidence in that view to wane over time”. And the US Federal Reserve has just published a paper which casts doubt over the inverted curve proposition: “It is not valid to interpret inverted term spreads as independent measures of impending recession”.
Perhaps the best source of reliable guidance about whether or not the US is headed for recession is the Conference Board, a non-profit think tank with more than 1,000 private and public corporations as members. It publishes a monthly Leading Economic Index (LEI), which is widely referred to because it comprises economic indicators that give a guide to the future. The February LEI rose by 0.3%, following a 0.5% decrease in January — anything lower than zero usually indicates that a recession is around the corner.
How are US consumers feeling? The Conference Board’s Consumer Confidence Index went up slightly in March, to 107.2, against 105.7 in February. But the index of consumer expectations dropped from last month’s 80.8 to 76.6. A separate and equally well-regarded independent survey of consumers, the University of Michigan’s Consumer Sentiment survey for March fell to 59.4, “the lowest reading since August 2011”. And the expectations for inflation rose to the highest reading since 1981.
Nor are Americans alone in looking to the future with some trepidation. In the Eurozone investor morale is now at its lowest in almost two years according to the Sentix Index, which takes the temperature of some 1,200 German investors and assesses their opinion on ten different markets. Expectations are even more dismal and are at the lowest since December 2011. Sentix commented: “No region is able to resist the negative momentum at the moment, even the important Asian region is already fighting stagnation”.
According to the London-based brokers Shard Capital the “question we should ask ourselves, is not whether we’re going into a recession or not, but how severe will it be?”
While a recession may not be around the corner, it is almost inevitable that after such an exuberant party in 2021 that there will be an almighty hangover. Money became confetti-like in 2021; the amount of new flotations testifies to that. Globally, initial public offering (IPOs) reached an all-time high of more than 3,000 last year. This year we have not only astonishingly high inflation in many parts of the world; we face the serious possibility of a major economy — Russia — defaulting on its foreign debt and an economic slowdown in another, China. For the founder of the world’s largest investment firm, BlackRock, the era of globalization is coming to an end.
People everywhere are now hunting for secure bolt holes where their money will be safer in such a topsy-turvy world. Do cryptocurrencies offer a protective umbrella? Even the International Monetary Fund (IMF) reckons that crypto assets “have matured from an obscure asset class”. Not so fast, says John Plender, one of the Financial Times’ senior writers. In his opinion “any claim bitcoin might have to be a geopolitical hedge has been severely dented by its performance at the start of the war in Ukraine. Against a background of plunging markets gold strengthened while bitcoin fell. Today, the gold price is close to its all-time high in August 2020, while bitcoin is well below its record high last November. So much for the great crypto store of value”. Gold is “particularly attractive” says Plender “in a period when governments have been engaging in fiscal pump priming in response to the 2007–09 financial crisis and Covid-19, and central banks have been printing money furiously. The attraction is all the greater when yields on index-linked gilts, a less speculative hedge against inflation, are negative and guarantee a loss to investors if held to maturity”, It’s surprising to find that the FT has written favourably about gold; historically the newspaper has tended to dismiss gold as an asset. To some extent Plender continues this tradition, as he writes that gold is the “ultimate bolt hole for frightened money”. At Glint, we make every effort to demonstrate a balanced conversation between gold, crypto and fiat currencies when it comes to purchasing power and, while we strongly believe that gold is the fairest and most reliable currency on the planet, we need to point out that it isn’t 100% risk free. While we have seen a steady increase over time, the value of gold can fall, which means that its purchasing power can also decline.
Today, thanks to Glint, gold is not simply for “frightened money” — not least because we have turned gold into money which you can use in your everyday life. And if we are headed for a recession, when the risks of other asset classes rise, people will tend to opt for gold because gold is security. Glint its key.