Question

On August 28, 2019 the following item made the news: “On Aug. 27, the yield-curve inversion deepened. The yield on the three-month Treasury bill was as much as 52 basis points higher than the 10-year note.” What might this inversion indicate? [Basis points (BPS) refer to a common unit of measure for interest rates and other percentages in finance. One basis point is equal to 1/100th of 1%, or 0.01%, or 0.0001, and is used to denote the percentage change in a financial instrument.]

Answer 1

An inverted yield curve is when yields on short term Treasury securities are higher than yields on long term Treasury securities.

An inverted yield curve indicates that a recession could occur in the near future. When investors are expecting a recession, they buy long term bonds as a safety investment, since they are expecting the returns on risky assets to fall. This causes the prices of long term bonds to rise and their yields to fall. In addition, investors prefer not to invest in short-term bonds when they expect a recession. This causes a fall in the prices of short term bonds, and a rise in their yields. The combined effect results in a inverted yield curve.