U.S. Treasuries: Exploring the curve inversion

Implication of curve inversion in U.S. Treasuries

So what does this mean? Again, a yield curve inversion does not necessarily guarantee that there will be a recession. Although, the U.S. economy is already technically in a shallow recession, having experienced two consecutive quarters of negative real GDP growth. However, if inflation were to cool, as it already has shown signs of cooling, the economy may return to growth.

However, several factors in addition to the yield curve inversion may point to a potential recession.

Energy crisis in Europe

First of all, there will almost certainly be a recession in many countries within Europe due to the Russia-Ukraine war and the energy crisis spawned from the conflict. In short, the European Union is working towards banning Russian imports of crude oil in December. In response, Russia has restricted its natural gas exports, making natural gas prices skyrocket in Europe. This has made energy much more expensive for Europeans and will almost certainly damage their economy.

It is noted that economic recessions in one area of the world can cause a ripple effect. The international financial system is highly interlinked and the recessions within Europe may end up having a negative impact on the U.S. 

Rising interest rates in the United States

Secondly, inflation has not cooled down as quickly as Americans would have liked. If Americans were told at the end of 2021 that inflation would still be running hot in September, they would likely be very fearful. This has shown up in the financial markets as both bonds and stocks have sold off in favor of cash markets due to the rampant inflation rates and rising interest rates.

This leads to the last point – rising interest rates will increase the likelihood of a recession. However, this has contributed to the inversion of the yield curve since the short-end is rising very quickly. So, it’s not necessarily the inversion of the yield curve that predicts a recession. It is more so that the pressure of a recession has led to a yield curve inversion.

Where to position your capital?

Many economists would expect money market securities to be the best place to position capital in the short-term given the highly uncertain economic conditions, highlighted by high inflation and rising rates. Money-markets can be invested in through ETFs. Some examples of money-market ETFs include:

SHV (iShares Short Treasury Bond ETF)

• AUM: $22.7B
• 1mo Performance: +0.13%
• 1m Flows: +$3.2B

ICSH (iShares Ultra Short-Term Bond ETF)

• AUM: $6.8B
• 1mo Performance: +0.22%
• 1m Flows: +$103M

SGOV (iShares 0-3 Month Treasury Bond ETF)

• AUM: $3.5B
• 1mo Performance: +0.19%
• 1m Flows: +$70M

Data for this article is as of September 8, 2022.

Please note this article is for information purposes only and does not constitute investment advice.