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Treasury yields continue slide with traders wary of 'curve inversion'
08 December 2018, 08:37 | Joann Bryant
The signal is called the "yield curve", and it shows how the bond market is feeling about the USA economy's long-term prospects.
Concerns about slowing USA growth have accelerated the flattening of the yield curve, a phenomenon in which longer-dated debt yields fall faster than their shorter-dated counterparts.
The term premium refers to the higher interest rate investors typically demand to commit money for longer periods of time.
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In the current instance, investors and economists are debating whether this warns of economic weakness ahead or if it reflects other factors, such as a recent reversal of large speculative bets on declining bond prices and the Federal Reserve's large holdings of Treasuries. This happens when short-term rates rise above longer rates.
The yields on five-year Treasury notes fell below those on three-year notes on Monday - that hasn't occurred since 2007.
The dollar index fell 0.07 percent, with the euro down 0.1 percent to $1.1341.
To be sure, this week's inversion has been limited so far to the front-end of the yield curve rather than more closely studied recession harbingers such as the gap between 2-year and 10-year note yields.
Failure would raise the spectre of fresh US tariff action and potential Chinese retaliation as early as March. The job market is strong, and consumer confidence is still high. Usually it just keeps raising rates, yield curve be damned, and it may be about to make the same mistake, Karl writes. They pay much more attention to the spread between two-year and 10-year Treasury yields. Economist Will Denyer of Gavekal Research notes that the yield curve has flattened, and eventually inverted, before every USA recession since the mid-1950s (see chart below).
The pound rose off 17-month lows of $1.2659 hit on Tuesday to around $1.2780, up 0.3 percent on the day, amid creeping optimism that Britain could opt to stay in the European Union after all.
Of course, that's still "pretty doggone tight", said Randy Frederick, vice president of trading and derivatives at Charles Schwab.
"The focus is now shifting to the inverted US bond yield curve, which has negative connotations, while implying the USA economy is heading towards what was, only a few weeks ago, an improbable economic slowdown", said Stephen Innes, head of trading for APAC at Oanda. That particular inversion has preceded every recession since the late 1970s.
However, investors are increasingly concerned by a flattening of the spread between 2-and 10-year Treasuries, a more fundamental benchmark of market health.
Yield curve inversions are seen generally as precursors of a recession.
That boosts the cost of borrowing for American households, and in turn pushes short-term Treasury bill rates higher, while putting downward pressure on long-term rates.
Given the current functioning of the world economy, "arguments are made that a flatter yield curve has less of a signal embedded in it" about coming economic performance.
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