Based on history and the underlying dynamics of the economy, a yield curve inversion is indeed a bad sign and something to watch. But it is not a sign of imminent doom. What we should take away from last week is the idea that risks continue to rise—and bear watching—but that we very likely still have some time to prepare.
Is this path set in stone, either way? Of course not. We can make a good case that the Fed overreacted on the dovish side and will tighten policy again after the first quarter. These actions would un-invert the curve and likely reset the clock. On the down side, the economy might continue to weaken. If so, the curve could invert further, which would indeed keep the clock running. It could go either way, but in neither case is the risk immediate.
The big immediate risk, from my perspective, is that this is one more piece of news that could shake both consumer and business confidence. That diminished confidence is what could turn a significant but not immediate problem into something more concerning. The news here is somewhat worrisome, in that the consumer confidence data this morning came in quite weak and that was before news of the inversion. This data could be a sign that conditions are weaker than they now seem.
The Real Message
Even so, however, we still likely have time to watch and prepare. The real message from the inversion is one you have heard before: be watchful, but remain calm and carry on.
Brad McMillan is the chief investment officer at Commonwealth Financial Network.