Is a Recession and Bear Market Looming
As I discussed last week, a major concern for the market and the overall economy is the level of interest rates.
Typically, in a normal economy, interest rates on shorter term bonds are lower than rates on longer bonds. That is called a normal yield curve. This makes sense because bond investors expect to get more reward for having a longer maturity date.
The problem comes in when the yield curve gets inverted. This is when rates on shorter bonds are higher than those of longer bonds. This generally happens when investors are gloomy about the prospects for the economy in the longer term. The Federal Reserve controls short rates and investor demand dictate longer rates. A negative yield curve has predicted all nine U.S. recessions since 1955, lagging about 6 to 24 months.
A bear market is when stocks drop more than 20% from their peaks. A correction is when it falls 10%. From 1900 through 2013 there were 123 corrections usually about one a year. There have been 32 bear markets, about one every 3.5 years, according to Ned Davis Research.
For a normal correction, the market fully recovered it’s value within an average of 10 months, according to Azzad Asset Management. The average bear market lasts for 15 months, with stocks declining 32 percent. The most recent bear market lasted 17 months, from October 2007 to March 2009, crushing stocks by 54%.
We did get a scare in the last week, with the curve getting close to zero. However, they have backed up slightly. Currently, the spread between 1-year and 10-year Treasury yields is roughly 0.8%. This is slightly higher than the 0.64% it touched in early January, but is well under its 15-year average of around 1.75%.
Many have argued, along with members of the Fed’s Open Market Committee, that this time is different because interest rates are so low and a flattening yield curve doesn’t necessarily mean the U.S. economic expansion is heading for trouble. The U.S. as well as global economies do look strong, but it does warrant a close eye.
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Cheers -Keith Springer