American Consequences - August 2019

WHAT COULD POSSIBLY GO WRONG?

Financial follies and disaster in the making

that indicates a future change in the markets or economy. Going all the way back to 1956, an inverted yield curve has preceded every U.S. recession. It’s an indicator with a frighteningly consistent track record, and one that few economists dispute or outright dismiss. It also makes little to no economic sense. Long-term bond investments should offer greater yields over short-term bond investments. That’s the incentive for tying up your money longer. If you can make more in the short term, you could theoretically make a killing compared with the long term (assuming the inversion holds). After all, what’s more appealing? Would you rather have a 10-year investment that yields 1.5%, or five consecutive 2-year investments that yield more? The latter is an unlikely scenario, but it highlights why inversions are problematic. If bond buyers and lenders make more money in the short term, long-term investments and projects will take a hit. Growth will slow.

Hurricane season...

Last month, we warned you about some economic “red flags” we saw on the horizon. At the time, we were certain that the Fed would cut interest rates at the end of July (we were right), and we saw signs of a potential yield inversion. Here’s what we wrote: The 10-year U.S. Treasury bond is the global paper-currency financial system’s “barometer”... When the 10-year real yield is steady or rising, you’ll see “clear skies” ahead. But when the barometer turns sharply lower, and especially when it breaks through key thresholds, a hurricane is coming... This week, it happened. On August 14, the 10-year yield fell below the 2-year Treasury yield before reverting back around midday. It’s too soon to tell if this inversion was an anomaly, but here’s why it matters... Inverted yield curves are what’s known as a “leading indicator,” an economic factor or event

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August 2019

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