Recession indicator: the spread between the US 2-year bond yield and 10-year bond yields

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In an economy where everyone is feeling confident, the yield curve is upward-sloping. That is, the yield on ten-year bonds is higher than on two-year bonds. That's because in a strong economy, investors have better investments for their money than tying it up for ten years in a govt bond, so yields have to be higher to attract them.

When the outlook is scary, the opposite happens. Investors pull their money from risky assets and plonk them in the safety of govt bonds. The more money pouring into bonds, the lower the yield.

Eventually so much frightened money pours into 10-year bonds, that the yield curve inverts: the 10-year yield is lower than the 2-year yield.

In the last 80 years, an inverted yield curve has been followed by a recession 6-8 months later. An inverted yield curve doesn't cause a recession. Rather it's just a measure of how scared investors are - and they're scared because they sense a slowdown.

Here is a graph of the spread between the 2-yr yield and 10-yr yield over the last year:


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It's just turned slightly negative.



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