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US yield curve inversion prompts recession fears

The US yield curve, measuring bond investors’ confidence, officially inverted on Thursday for the first time since 2007, prompting fears that a recession is imminent.

Yield curve inversions have preceded the last seven recessions, with lead times of between six months and 2 years.

Whilst the inversion undoubtedly suggests that the probability of a recession is raised, it can also be seen as the market view that current monetary policy needs relaxing, such as by significantly cutting interest rates. 

“The recent inversion of the US Treasury yield curve has had the financial press in a bit of a frenzy,” said Franklin Templeton’s fixed income CIO Sonal Desai.

““I see a glaring contradiction in the fact that so many market participants and commentators emphasise the heightened level of economic uncertainty, and at the same time seem to consider flat or inverted yield curves as fool proof predictors of a recession,” she said.

“I see this as completely misguided—I think the yield curve is telling us nothing about what lies ahead for the real economy.”

The consensus among some investors is that there is no need to fear an imminent recession.

“While the global economy continues to slow and trade tensions weigh on the outlook, we still believe that we are not on the brink of a US or global recession,” said Esty Dwek, head of global market strategy for dynamic solutions at Natixis Investment Managers.

“At the moment, data is generally pointing towards trend growth, with some exceptions such as Germany, which contracted in the second quarter. Manufacturing remains weak, but services are holding up,” she said. 

“In addition, consumers are broadly healthy and the US housing market should benefit from lower rates. US growth for Q2 came in at 2.1% in the preliminary estimate, and Chinese retail sales have pointed to stabilization.”

For Andrew Catalan, head of long duration at fund giant Insight Investment, the Fed is not being seen as doing enough to avert a US recession amidst the global economic downturn.

“We don’t expect a recession over the next 12-18 months, even with announced tariffs on Chinese exports. We expect foreign demand, however, will likely keep a lid on rates,” he said.

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