One of the market’s most closely watched harbingers of a US recession has flashed red for the first time in 16 years in a further blow for Joe Biden as his struggling presidency faces a stalling economy.
Signs that central banks will need to act aggressively to clamp down on inflation deepened the global bond rout on Monday morning, sending yields on short-dated government debt soaring.
Usually longer-term bonds have a higher yield than short-term bonds to compensate for investors keeping their money locked in for longer. However, part of the US Treasury yield has inverted, meaning that some short dated government debt has a higher yield than longer-dated sovereign bonds.
This inversion is a sign that investors think a recession in the world’s biggest economy could be close as it predicts that the central bank may need to cut interest rates in response to a downturn.
The five-year Treasury yield rose almost 10 basis points to 2.64pc while the 30-year yield was steady at 2.58pc. It was the first inversion of this part of the yield curve since 2006, shortly before the financial crisis.
The difference between two-year and 10-year Treasury yields, which has predicted every downturn in the last 50 years, is also closing in on inversion. This is the most closely watched recession indicator on markets and typically signals a downturn within the next 18 months.
The Democrats and Mr Biden could be facing difficult midterm elections later this year if the market indicator proves correct.
The sharp moves in the yields on short-term debt reflects investors’ rising expectations of the US Federal Reserve needing to aggressively tighten monetary policy to rein in inflation. The central bank has stoked expectations of a series of interest rate hikes to cool price pressures.
Deutsche Bank analyst Jim Reid said: “Given just how far the Fed is behind the curve it’s fair to say that if the post global financial crisis cycle could be erased from people’s memory banks, then I think markets might be pricing 300-400 basis points of hikes this year.
“However the fact that the last decade was so moribund from an activity and inflation point of view means that markets still refuse to believe the Fed can get very far.”