Bond Market Commentary

To the point!

September 18, 2023

Inverted curves (when the gold line goes below the red line meaning that short maturity yields are higher compared to longer maturity yields) have preceded recessions. The longest period of inversion led to the longest recession. 10-year Treasury rates were inverted to 3-month T-Bills for 388 days prior to the Great Recession. The current inversion is now 328 days long.

The shaded blue area represents the Fed’s favored measure of inflation – Core Personal Consumption Expenditure (PCE). Inflation began its sharp rise in 2021 and peaked in early 2022. The Fed began to raise Fed Fund rates in March 2022 (depicted by the gold line). They have raised an extraordinary 525 basis points in just 18 months. Although inflation has trickled slightly lower from the highs, the dramatic Fed policy seems to have had minimal effect on it.

The national average 30-year fixed-rate mortgage* since 2020 has been 4.55%. It is now 7.59%. The average new car finance rate** has been 5.25% since 2020. It is now 6.6%. Credit card delinquencies** are ticking up when outstanding balances held by consumers are 26% greater than 10-year averages or nearly 35% greater than 20-year averages.

Interest rates are higher today than they have been in nearly 16 years. This graph depicts the 10-year Treasury rate since September 2007.

Conclusion: You need to draw your own but I will share mine.

• The yield curve has been one of the best predictors of the future and recessions over time and although there are no guarantees from past performances, I consider this a strong signal of an upcoming recession. Once the curve returns to a positive slope, it takes about four months on average, for the economy to fall into a recession.
• The length of this inversion is signaling the potential for more than a mild recession.
• Inflation may persist for a long time – lower but far from the Fed’s 2% target level as they need more than just their policy to move the needle.
• Other indicators are revealing a weakening economy including high mortgage rates, high auto rates and credit card balances significantly higher than 10- and 20-year averages.
• With rates at 16+ year highs, there is a definitive window of opportunity in fixed income. Individual bonds are not only providing principal protection, but also significant income opportunities. Since all the indicators are pointing at a nearing Fed policy reversal and/or upcoming recession, the window of opportunity may be short-lived. Make sure your fixed income allocation is solidified under these favorable conditions.

* (Bloomberg/Bankrate.com)

** (Bloomberg/Federal Reserve)