The last time the U.S. Treasury yield curve was this flat, it presaged a recession. Still, there’s no serious risk that the same sequence of events will repeat this time, according to Goldman Sachs Group Inc.
While near-term interest-rate increases by the Federal Reserve may lead to a further flattening of the front end of the curve and potentially some inversion, a historical analysis from the 1960s shows that isn’t sufficient to establish a recession is looming, strategists at the bank led by Praveen Korapaty wrote in a research note. Three of the last 10 times the yield slope inverted, there was no recession over the following two-year period, according to the bank.
“The bottom line is we don’t believe that investors ought to overly fear a flat yield curve, either as a signal or a cause of a recession,” the analysts wrote. “The impact of flattening in the term spread on bank profits, while significant for smaller banks, is marginal for larger institutions.”
The difference between two- and 10-year yields, a gauge of the slope of the yield curve, narrowed to as little as 23.4 basis points Friday, the least since August 2007. The curve last inverted in June 2007.
“Our projection for the evolution of the curve most closely resembles the last cycle, despite the difference in details such as the presence of the Fed’s SOMA portfolio reduction, a far more gradual pace of tightening, and a late-cycle fiscal stimulus,” according to the analysts.
The U.S. 2s10s curve is expected to invert first, within the next 2 to 3 rate hikes, and will likely occur around the 3%-3.2% level in 2y yields. Inversion will probably be less than 25bps, given the gradual pace of hikes and increases in inflation rates. The bank recommends near-term curve flatteners such as 2y3m/3m3m and 2s10s, but after the curve flattens further, they prefer forward yield steepeners such as 2y fwd 2s10s that have tended to outperform spot curves.
This article provided by Bloomberg News.