An inversion of the rates curve doesn’t necessarily mean a recession, does it?
- The Fed’s QE programme, coupled with Operation Twist in 2012, were designed to lower long term bond yields and force the flattening of the yield curve in order to force investment in the real economy. The aim was to increase the velocity of money by increasing risk taking.
- Subdued inflation driven by the disruptive effects of technology replacing the labour force and the globalisation of the labour market, has lowered long term inflation expectations.
- US corporates are making investments in their underfunded pension plans before September 15th 2018, taking advantage of a 14% tax benefit by making a deduction at the old prevailing tax rate of 35% instead of 21%. These contributions end up being invested in long dated treasuries causing further yield curve flattening.
Investors have therefore been reserved in backing a steepening of the rates curve. Unlike previous tightening cycles, this one in particular will see a very large runoff of duration as the Fed unwinds its balance sheet.
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