In March the stock market continued its upward climb, albeit at a slower pace than the first two months of the year. Economic activity continued at a strong pace with more job growth, wage gains, low unemployment and low inflation. In spite of these positives, talk of a recession dominates the air waves.
Why is the R-word so prevalent in such a strong economic environment? Some analysts say it is simply because we are way overdue. This expansion has lasted for nearly a decade and on average a recession occurs every three or four years. But averages are deceiving. A decade long expansion happened in the 1990’s, so it is not without precedence.
Economic expansions don’t stop just because the calendar says it is time. There is always a catalyst such as a stock market bubble, a housing bubble, a financial crisis, or an aggressive Federal Reserve monetary policy, to name a few examples.
What defines a recession? A traditional definition is two consecutive quarters of negative GDP adjusted for inflation. The National Bureau of Economic Research (NBER) offers a broader definition. It defines a recession as “a significant decline in activity spread across the economy lasting more than a few months.” https://www.nber.org/cycles/cyclesmain.html
An event in March fueled the recession talk. On March 22nd the yield on the 3-month T-bill exceeded the yield on the 10-year Treasury by 0.02 percentage points. When this happens it is called an inverted yield curve. An inverted yield curve is considered a leading indicator of a recession. In a normal market the yield curve slopes upward with the lengthening of bond maturity. A 10-year Treasury bond will offer a higher yield than a 5-year, which offers a higher yield than a 3-year which offers a higher yield than a one year T-bill. Following this logic you expect to receive a higher interest rate on a 2-year CD than you would on a 6 month CD.
This event may or may not prove to be significant. A stronger signal would be if the 2-year Treasury exceeds the 10-year. That has not happened as of this writing. The short term interest rate (1 year or less) is set by the Federal Reserve and the long term rate is determined by the market. The Federal Reserve has taken an increasingly dovish stance on short term interest rates this year. In the March meeting the Board said it sees no rate hikes in 2019. It also seemed to close the door on a decrease in rates by saying it “expects the economy will grow at a solid pace in 2019.” In any event, it is important to know that recessions historically lag an inverted yield curve by nearly 2 years.
Is a recession in our future? Recessions are inevitable in a free market economy and a normal part of the business cycle, but none of this means a recession is imminent. The market ended on a positive note in March and the economy is stronger than we have seen in over a decade. Investors continue to support higher prices.
Written by Connie C. Guelich, CFP, AEP, CLU, ChFC. This represents our view at the time of this writing and is subject to change. This is not intended to be personal investment advice. If you would like to discuss your own account, please don’t hesitate to call us. We are here to help and welcome your call.