Right now, economic headlines are providing some mixed messages.
On May 5, 2023, for example, The New York Times reported, “U.S. employers added 253,000 jobs despite economic worries,” and on May 8, 2023, CNBC reported, “Recession fears [have] eased.” But at the same time, MarketWatch reported on May 8, 2023, “U.S. markets fear recession,” and The Wall Street Journal took a slightly more neutral route, writing, “ʻNo recession’ doesn’t mean no worries for stocks.”
What we’re seeing here is common: As market uncertainty increases, analysts and financial reporters begin looking to different sources of information for a hint of what may be coming, in both the short term and long term. But some recession indicators may be more reliable than others—and some may even slip under most analysts’ radar.
The Treasury yield curve is a popular recession indicator that often makes headlines.
The Treasury yield curve has been one of the most consistent indicators that a recession is on the horizon. Simply put, a yield curve compares the yields of different bond maturities.
Typically, longer-term bonds provide higher yields than shorter-term bonds. But when, for example, a bond that matures in two years is paying a higher yield than a 10-year bond (as it is currently), the yield curve is said to be inverted. This is the market’s way of saying, “We expect interest rates and economic growth to be lower in the future.”
As you can see from this chart, when the difference between yields drops below 0 (thick, black horizontal line), the yield curve is inverted, and within two years of each inversion, we’ve typically experienced a recession (gray columns). This curve has been inverted since July 2022.
10-Year Treasury Constant Maturity Minus
2-Year Treasury Constant Maturity
However, the Federal Reserve also uses a different indicator—one you may never have read about in the newspapers.
Throughout 2022, Federal Reserve chair Jerome Powell and the Federal Reserve referenced another curve indicator that they claim to watch very carefully, called the “near term forward spread” (NTFS).
Near Term Forward Spread
Each point of data on this spread represents the difference between a then-current three-month bond yield and what that same bond yield was expected to be 18 months later. Simply put, it shows the rise and fall of economic expectations.
Here’s what I find interesting about this spread: In March 2022, Powell stated in reference to this indicator, “If it’s inverted, that means the Fed’s going to cut, which means the economy is weak,” and that same month, the Federal Reserve published research that stated, “Our near-term forward spread had substantial predictive power not only for the chances of recession, but also for both the pace of GDP growth and the returns earned on stocks over the subsequent four-quarter period….”
Then, the following November, this spread that the Federal Reserve claims to place intense focus on inverted. Yet since that inversion, the Federal Reserve and Powell have been strangely silent on the topic.
The inversion of this spread may signal future market uncertainty.
If Powell is correct, the inversion of the near-term forward spread may be a sign of a weak economy or an impending recession. In either case, this inversion, along with the inversion of the Treasury yield curve and the mixture of financial headlines we’re currently seeing, is a potential sign of continued market uncertainty, which often goes hand in hand with market volatility.
In an environment of uncertainty or volatility, diversifying your portfolio with tangible assets like gold can prove to be a powerful tool in helping you protect what matters most. But just as with car insurance, you benefit most from implementing a diversification strategy before a negative event occurs. If you think diversifying with physical precious metals like gold may be right for your portfolio strategy, I encourage you to call us today and secure that extra level of protection for your retirement.
