The major Asia/Pacific stock indexes are down sharply on Monday amid concerns over a potential recession in the United States. The move is being fueled by an inversion of part of the Treasury yield curve. However, a key Federal Open Market Committee member says the U.S. economy is in a strong position.
As bond traders lost confidence in the strength of the U.S. and global economies after the Federal Reserve downgraded its own forecast last Wednesday, they aggressively bought long-term U.S. Government debt. This move drove down long-term debt yields enough to invert the yield between the 3-month and 10-year yield. This is considered an important recession indicator.
As of Friday’s close, the yield on the 3-month Treasury bill was 2.459 percent while the yield on the 10-year Treasury note was 2.437 percent, according to Refinitiv TradeWeb data. This was the first time in twelve years the spread had reached negative territory.
“I’d highlight that the 3-month to 10-year spread is important because the Fed has done a lot of research on which best predicts future recessions and it found that one to be preferable,” said BMO Capital Markets rates strategist Jon Hill. However, Hill did add that while the recent inversion does not guarantee a recession, BMO’s work on the Cleveland and New York Fed’s models suggests a 30 percent chance of a recession in the next 12 months.
President Donald Trump’s chief economic advisor, Larry Kudlow, agreed that the spread between the 3-month yield and the 10-year yield is the most important difference to monitor.
The early price action strongly suggests that this narrative will control the price action on Wall Street on Monday. At this time, we’re looking for the U.S. equity markets to open sharply lower.
Fed’s Evans Speaks
Speaking at the Credit Suisse Investment conference in Hong Kong, Chicago Federal Reserve Bank President Charles Evans made a series of remarks about Fed policy and the U.S. economy. Here are the highlights:
Evans said the U.S. economy is in a strong position. He further added that he is not concerned about inflation and that the Federal Funds rate is arguably close to neutral. Additionally, he said that monetary policy is neither accommodative nor restrictive at this point. He also said the yield curve inversion is very narrow.
Most importantly, Evans said it’s a good time for the U.S. central bank to pause and adopt a cautious stance even though the economy remains in a strong position. His comments were among the first by policymakers following the Fed’s decision last Wednesday to signal an end to its tightening after it abandoned plans for further rate hikes in 2019.
This article was originally posted on FX Empire
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