As might be expected, the US 10-year - 3-month yield curve has also turned negative. This inversion means that the two traditional yield curves with the longest and most reliable track record as recession predictors are now negative. By itself that’s is no reason to sell equities, or any asset class for that matter.
Focus
With the inversion of the yield curve, the debate is going to flare up about whether we will have another US recession and, of course, why it is different this time. I believe the probability of another recession between now and 18 months - the average lead time between yield curve inversion and start of recession - is high.
However, the most important thing I want to convey here is that a yield curve inversion is not a legitimate reason to downgrade equities or any other asset class. I realise that this is not a headline that financial and social media can relate to, but so be it. My firm’s motto is not for nothing “invest based on what you observe, not on what you assume.”
Shares up
The chart below shows the annualised returns on the S&P 500 Index realised between the first day of yield curve inversion and the first day of recession for all recessions since the late 1970s.
On average, US stocks realised a return of 7.3 per cent on an annualised basis. So that is almost as much as the long-term average return on US equities. The median return is lower at 5.8 per cent, but still more than decent. Also striking is that US equities did not achieve negative returns in any of the six inversions and recessions. Now recessions, especially in recent decades, are rather scarce, so there can be no real statistical significance, but to assume that equities have to go down because the yield curve is negative is nonsense.
Incidentally, there are numerous reasons why equities do need to be negative, but that aside.
Multi-Asset up
To conclude. Even when I extend the dataset to other asset classes, something that is sometimes forgotten, I see purely positive returns between yield curve inversion and recession. Whether it is global equities, commodities, gold, government bonds or corporate bonds, the conclusion is always the same: yield curve inversion is not the end of the world.
Jeroen Blokland is founder of True Insights, a platform that provides independent research to build diversified multi-asset portfolios. Blokland was most recently head of multi-assets at Robeco. His chart of the week appears every Monday on Investment Officer Luxembourg.