When Will the Yield Curve “Un”Invert? (2024)

Key Takeaways

  • The UST yield curve has been inverted, but there is speculation about when it will “un”invert and move out of negative territory.
  • Short-term and long-term rates do not always move in the same direction, and the magnitude of their movement affects yield curve developments.
  • The potential for Fed rate cuts could impact the timing of the yield curve moving out of negative territory, with the UST 2-Year/10-Year spread potentially being the first to do so.

In my last blog post, I discussed how the inverted Treasury (UST) yield curve may have lost some of its predictive luster with respect to foreshadowing a recession, at least up to this point anyway. However, there’s another topic that I’ve been discussing in client meetings that is slowly becoming a “hot” topic, and that is the timing for when the UST curve could “un”invert, i.e., move out of negative territory.

Before I delve further, it is important to understand the dynamics behind yield curve movements. Remember, we are talking about two potentially moving parts: short-term rates and longer-term rates. Interestingly, there can be a misconception that all rates tend to move in the same direction, but history has shown us that is not necessarily the case. In addition, even if short-term and long-term rates are moving in the same direction, it is the magnitude of these movements that can dictate yield curve developments.

U.S. Treasury Yield Curves

When Will the Yield Curve “Un”Invert? (1)

Source: Bloomberg, as of 7/2/24.

The two yield curves that are closely followed by market participants are the UST 3-Month/10-Year and UST 2-Year/10-Year differentials. These two constructs went into inverted territory during the fall and summer of 2022, respectively. In addition, the magnitude of these negative spread relationships reached historical proportions. For example, the “peak” negative reading for the UST 3-Month/10-Year relationship reached a low watermark of -190 basis points (bps), while the UST 2-Year/10-Year spread plummeted to a low of almost -110 bps, with both of these milestones occurring around the spring of 2023.

Let’s put those readings into some perspective for where things stand as of this writing. In the case of the former spread, the level is now -107 bps, while for the latter, it is -32 bps. This “steepening” has helped to bring about the very topic I am blogging about, but it should be noted that we have “seen this movie” before during the current inverted cycle.

So, what could make this time different? The potential for Fed rate cuts. In fact, that’s the underlying premise behind the discussion of when the yield curve could move out of negative territory. Let’s go back to what impacts rates along the maturity spectrum for a better understanding. Short-term yields are going to be anchored by the Fed Funds Rate, while longer-dated maturities are affected by not only monetary policy but also economic and inflation expectations and, at times, fiscal policy as well.

Given the current level of inversion for the two yield curves under discussion here, one could make the case that the UST 2-Year/10-Year spread could be the first to move out of negative territory. If the Fed cuts rates twice this year and continues into early 2025, odds would favor this differential going back to zero, or even positive, because the UST 2-Year yield would more than likely fall to, or below, the rate for the 10-Year given its tighter correlation to the Fed Funds Rate. Remember, the negative reading here is “only” -32 bps.

The timing for the UST 3-Month/10-Year “un”inversion could take longer due to the negative reading being more than one full percentage point (-107 bps). In order to reverse this negative spread, the Fed would need to be more aggressive in cutting rates than is currently expected. For instance, keeping the UST 10-Year yield where it is now at around 4.30%, technically, the Fed would need to cut rates more than four times (>100 bps total) just to get the spread back to zero.

Indeed, unless the economy—especially the labor markets—falters in a visible fashion, our reasonable case scenario sees the Fed rate cut cycle as being a more “choppy” one where easing moves are limited to 25-bp increments and do not occur at consecutive FOMC meetings. For all intents and purposes, this type of rate-cut cycle should more than likely result in yield curve steepening, but the timing could certainly be different depending on what curve you are analyzing.

Conclusion

As you can see, in the grand scheme of themes, when analyzing yield curve trends, sometimes it just comes down to the math.

When Will the Yield Curve “Un”Invert? (2024)

FAQs

When Will the Yield Curve “Un”Invert? ›

Often, though, the yield curve un-inverts shortly before a recession, as an economic slowdown comes closer into view and investors start betting on aggressive Federal Reserve rate cuts.

Is the yield curve still inverted in 2024? ›

This is an unusual situation where yields on certain shorter-term Treasury securities exceed those of longer-term securities. An inverted curve environment emerged in 2022 and has persisted since, though the inversion has flattened in 2024.

How does an inverted yield curve affect mortgage rates? ›

Step 2: Interpret the Curve

A normal curve suggests increasing mortgage rates, an inverted curve indicates decreasing rates, while a flat curve suggests stable rates.

When the yield curve is inverted the economy is expanding? ›

An inverted yield curve results when short-term yields are higher than longer-term yields. Inverted yield curves are rare and generally reflect periods of significant economic slowdown and possibly recession.

Why does the yield curve change? ›

For this reason, the cash rate is often referred to as the 'anchor' for the yield curve. Changes in the cash rate tend to shift the whole yield curve up and down, because the expected level of the cash rate in the future influences the yield investors expect from a bond at all terms.

What's the longest the yield curve has been inverted? ›

The part of the Treasury yield curve that plots two-year and 10-year yields has been continuously inverted - meaning that short-term bonds yield more than longer ones - since early July 2022. That exceeds a record 624 day inversion in 1978, Deutsche Bank said in a note on Thursday.

Is the US currently in an inverted yield curve? ›

According to the current yield spread, the yield curve is now inverted.

Who benefits from an inverted yield curve? ›

A yield curve inversion has the greatest impact on fixed-income investors. In normal circumstances, long-term investments have higher yields. Because investors are risking their money for longer periods of time, they are rewarded with higher payouts.

What happens when the yield curve un inverts? ›

In fact, when the yield curve un-inverts, it is signaling that the recession is closer (within one year based on the past three recessions). While the inversion says trouble is coming in the medium term, the un-inversion says trouble is coming within a year.

How accurate is the inverted yield curve? ›

Nearly two-thirds of strategists in a March 6-12 Reuters poll of bond market experts, 22 of 34, said the yield curve's predictive power is not what it once was. "I feel the inverted yield curve is just not as good an indicator as before," said Zhiwei Ren, portfolio manager at Penn Mutual Asset Management.

How long does it take from yield curve inversion to recession? ›

As the period moves further out beyond 18 months, the probability of predicting a recession falls closer to the long-term average U.S. recession probability (15-20% of months). After roughly 16 months from the point of initial inversion recession has yet to occur.

What are the odds of a recession in 2024? ›

In light of recent economic developments, J.P. Morgan Research has raised the probability of a U.S. and global recession starting before end-2024 to 35%. The probability of a recession happening by the end of 2025 remains unchanged at 45%.

How long was the yield curve inverted in 2007? ›

For instance, the yield curve was inverted for 235 days between the inversion in January 2006 and the start of the 2007-2009 recession.

What's the riskiest part of the yield curve? ›

Steepening Yield Curve

Therefore, long-term bond prices will decrease relative to short-term bonds. Steepening yields are a true risk for bond traders who use a roll-down return strategy to profit from selling long-term bonds they hold.

Should you buy bonds when interest rates are high? ›

Because bond prices typically rise when interest rates fall, the best way to earn a high total return from a bond or bond fund is to buy it when interest rates are high but about to come down.

What happens when the yield curve flattens? ›

When it is flat, this usually means investors don't expect much change in interest rates, and a two-year bond could pay the same return as a 30-year bond. This isn't a positive outlook. A flattening yield curve hints that investors are worried about the economy's direction and are expecting a slowdown.

What is the yield curve for April 2024? ›

Consistent with the methodology specified in § 1.430(h)(2)-1(d), the monthly corporate bond yield curve derived from April 2024 data is in Table 2024-4 at the end of this notice. The spot first, second, and third segment rates for the month of April 2024 are, respectively, 5.24, 5.48, and 5.61.

What is the bond yield for 2024? ›

The composite rate for I bonds issued from May 2024 through October 2024 is 4.28%.

Is the yield curve univerting? ›

That's why inverted yield curves are often seen as a warning of an impending recession, in fact -- investors sense that trouble awaits even if they don't consciously know it. As the chart above also shows, the yield curve has actually been inching its way back an uninverted status since the middle of last year.

What are the expectations of the yield curve? ›

The yield curve is upward sloping. Conversely, when the short-term interest rate is high, the expected future short-term rate is lower. The expectations theory then implies that the yield curve is downward sloping. It follows that the short-term interest rate fluctuates more than the long-term rate.

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