While most of the interest rate array has been increasing in a stable upward trend, short-term interest rates have been rising more rapidly than long-term rates, which has driven a declining yield curve spread. The monthly yield curve spread, as measured by the 10-year T-Note (10y TN) minus the 1-year T-Bill (1y TB), carved a fresh cycle low at 0.17 at the end of December, its lowest level since the beginning of 2007. It is widely known that an inverted yield curve often portends a negative stock market, so the spread’s downward trend has worried many equity investors and economists alike. We don’t believe the current spread level tells us much on its own. Other factors help to provide context: the size of the spread decline from its high, additional interest rate trends, and CPI should also be considered. In this context, we believe interest rates at current levels are neutral for stocks; if the yield curve becomes negative, however, and the Fed fails to provide evidence of relief from current tightening, then a sustained market correction is possible.
Regarding long-term corporate bonds, the quality spread as measured by Baa bonds minus Aaa bonds has widened.The quality spread has historically been a good predictor of confidence in the corporate bond market; a widening spread could mean trouble for this segment of the market.As of December 2018, its spread was greater than 1.1.A quality spread at that level, along with the state of the yield curve, is likely driving some of the recent market volatility.
Information contained herein was obtained from recognized statistical services and other sources believed to be reliable and we therefore cannot make any representation as to its completeness or accuracy. Any statements not of a factual nature constitute opinions which are subject to change without notice.
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