With all the hysteria in the business media about the incredibly flattening yield curve, one would think that the consequences of a flat curve would be devastating. History has shown than when fixed-income instruments on the long end of the curve are lower than the short end, a recession usually ensues. It isn't a matter of if, but when. OK, we get that, and we must heed history and should be prepared.
Yet the stock market so far is not buying it. Rather, all markets are within a whisker of all-time highs again, something rather extraordinary after the big volatility shakedown in February. It seems almost everyone had predicted the January flurry was the top for the year. Well, if I look at the calendar I see there are more than five months remaining in 2018, so maybe those predictions were a bit premature.
Recessions are part of a natural economic cycle. There is nothing to worry about or fear, just like bear markets are nothing to fear.
But let's put this into some context. We are nearly 10 years removed from a near-devastating financial crisis that threatened to knock the world markets and economies back into the Stone Age. Hence, there was and still is a rather loose monetary policy, something that was vital to stimulate risk-taking again.
The United States took the lead on this and the rest of the world followed. Fact: Central banks did what was necessary to pull the world economy back from the brink. You may argue the timing and the tactics, but they did the right thing in a crisis -- period.
During the first eight years of recovery (we are in year nine now), there was plenty of premium in the spread of the 2/10 year yield. For the most part, it was well over 150 basis points at most times due to the central banks' generous accommodation and very little inflation to speak of. All of that has changed now, but it's not a bad thing.
Indeed, history has shown a recession is not necessarily imminent with a flat yield curve. Incidentally, the 2/10 spread is about 25 basis points now, as the long end of the curve remains stubbornly low. This tells us that even as the Fed continues to unwind the balance sheet, there is still enormous demand for our Treasury bonds.That's not a bad thing! Let's just pay attention to the markets and not the hype and hysteria over things we cannot understand clearly or control. The bond market is more efficient than any market out there.