INSIGHTS

On September 19, 2016

AAM Viewpoints – Recession? We Don’t Think So; 30 vs 5 Spreads

A couple of wise people at AAM pointed out to me that over the last 30 years when the yield curve between the 30-year Treasury and the 5-year Treasury was inverted i.e., the yield on the 30-year Treasury bond was lower than the yield on the 5-year Treasury bond, a recession followed. This situation occurred three times during this 30-year period: the recessions of 1990, 2001 and 2008. It does not matter what the reasons were for the inversion, a recession followed. So where are we now on the 30 vs 5s (30-year Treasury bond versus the 5-year Treasury bond)? Right around a 130 bps (basis point) spread. A long way from inversion, especially when you consider that the average spread on the 30 vs 5s over the last 30 years is 130 bps. In addition, over the last three years, the spread put in a double bottom at 102 bps, the most recent bottom just a couple weeks ago.

What about the Fed raising rates while foreign sovereigns generate negative yields? The demand from foreign buyers could keep rates low on the longer U.S. Treasuries and combined with the rise in interest rates on the short end from the Fed raising rates would indeed flatten the yield curve. True, except that yields on foreign debt are showing signs of rising. A couple months ago there was $13 trillion in foreign debt with negative yields; that number currently sits at $9.7 trillion. The generic 10-year euro and 10-year German bund have turned positive while the yield on the 10-year Japanese sovereign is close to turning positive.

Additionally, with inflation estimated to be running at the targeted 2% and the Atlanta Fed predicting real GDP growth of 3.5% for the third quarter of 2016, the economy seems to be doing just fine. Besides, raising rates which has the potential to translate into larger yields and more income to investors from fixed income instruments could further fuel the economic recovery. Wouldn’t that be great?

So, given the above logic, we do not think a recession is around the corner. As always, check with your advisor for guidance and seek different views before making investment decisions.

CRN: 2016-0901-5532R

This commentary is for informational purposes only. All investments are subject to risk and past performance is no guarantee of future results. Please see the Disclosures webpage for additional risk information. For additional commentary or financial resources, please visit www.aamlive.com.