What Is An Inverted Yield Curve?
You can see it here under the column titled “Yield.” The 5yr note has a yield to maturity of 2.6972% a year. The 10yr note (the most important single number I can name in global financial markets) has a yield to maturity of 2.554%
You can see that 2.6972 > 2.554, which isn’t “normal,” whatever that means. In this instance, they say the yield curve is inverted.
No Arbitrage Allowed
The real point is that this creates something called a “five year rate, five years forward.” That looks and sounds like jargon, and it is.
But, some math will show the way.
If you invested $100 for 10 years, it would be worth 100 x (1.02554)^10 which reflects the compounded interest for 10 years.
If you invested $100 for 10 years, it would be worth 100 x (1.026972) ^ 5 which reflects the compounded interest for 5 years.
The result is that you can calculate what the market believes to be the 5 year interest, starting in 5 years.
You know what the end of today to 10 years will be = 128.68444146
You know what the end of today to 5 years will be = 114.233376659
In five years then, you will get 114.23 after 5 years, and the market is currently saying that it will be worth 128.68 after the next five years. That is the five year rate, five years forward.
That math is (126.68444146 / 114.233376659)^(1/5) = 1.02090669837 – 1 = 2.090669837%. You can see how much lower this is than the current 5yr note yield, which is 2.6972%. This reflects the market-neutral position of where the 5yr note will be, after 5 years have elapsed. When that forward rate (2.091%) is lower than current 5year rate (2.6972%) »> this is a predictor of recession.
You do not need to know how to calculate, but the intuition, the rationale, is important.
*Actual bond jocks can stop criticizing the shortcuts I have taken, gimme a break.
The First Step Is A Crazy Background
Paid subscribers can hopefully conclude one thing: the likelihood isn’t very high, that I have created this set of articles, out of thin air, on top of my head, as fast as I could type. We are not close to finished revealing everything.
BTW, I signed this, I must be the April Fool.
Paid subscribers will see all of the work in progress (not all at the same time, but you get the cat bird’s seat to me doing this):