Many of you who know us have probably heard us say that the bond market is much smarter than the stock market. So, we don’t put much value in stock market jitters, but when the bond market speaks, we listen. And right now, the bond market isn’t screaming, but it is clearing its throat.
We have recently discussed the Federal Reserve’s tightening policy and over the past year we’re seeing movement on the investment side with the U.S. Treasury taking some action. It comes as no surprise that short term rates are rising with the Fed increases, but the issue we’re seeing right now is that longer term rates aren’t catching up.
For instance, the difference in the 5 and 10-year treasury rate at the beginning of 2017 was 0.51% according to data from treasury.gov. That difference as of April 2nd 2018 was 0.18%.
In following, the difference between the 10 and 30-year rates has shrunk from 0.59% to 0.24% in that same time frame.
We call this yield curve flattening, which puts investors in a weird spot because they’re not being paid well to invest their money for longer. This also causes problems for banks because they can’t safely earn a rate of return that’s much higher than what they’re borrowing from each other at.
What we really don’t want to see is for this to continue and for the yield curve to invert. This means shorter term rates are higher than longer term rates. This curve inversion is bad news and has historically been a fairly accurate harbinger of a recession.
This doesn’t just happen on its own though, the Fed would have to continue raising rates at a fast pace to cause this and, with the curve as it is right now, we hope they’ll take heed and be careful this year.
Domestic stocks are still being driven by strong earnings and aren’t showing anything too concerning on their own, but they listen to bonds too. The key to facing down these events, as always, is to be confident in your allocation and plan.