Yield curve
A government’s yields by maturity. Inverted, it has often preceded recessions.
Reading the curve
The yield curve links a government’s borrowing rates to their maturities: 3 months, 2, 5, 10, 30 years. Normally it slopes upward: lending for longer is riskier (inflation, uncertainty), so investors demand a premium. Its slope is often summed up by the 10-year minus 2-year spread.
Why inversion worries
When short rates exceed long rates, the curve is inverted. Short rates follow the tightening central bank; long rates reflect expectations of future cuts, hence a slowdown. In the US every recession since the 1970s was preceded by an inversion, with a 6 to 24-month lag. The signal is not infallible, though: the 2022-2024 inversion was not followed by a recession.
Steepening and flattening
A steepening curve (wider spread) often comes with short-rate cuts or worries about inflation and debt. A flattening curve comes with monetary tightening. Banks, which borrow short and lend long, earn more with a steep curve.
Reading a slope
- The US 2-year yields 4.90%, the 10-year 3.90%.
- 10Y - 2Y slope: 3.90 - 4.90 = -1.00 point, i.e. -100 basis points.
- The market therefore expects the Fed to cut rates in the coming years.
A negative 100 bp slope is a deep inversion, close to 2023 levels.
the longest inversion in US history
The US 10Y-2Y spread turned negative in July 2022 and stayed there until late August 2024, over two years, bottoming near -110 bp in summer 2023. The economy slowed without falling into recession: a reminder that the signal flags a risk, not a certainty.
Common mistakes
- Taking inversion as a recession date: the lag varies widely and the signal can fail.
- Mixing slopes: 10Y-2Y and 10Y-3M do not always tell the same story.
- Forgetting that it is often the re-steepening, not the inversion, that comes just before a recession.
Questions and answers
Which slope does the Fed watch?
Its economists favour the 10-year minus 3-month spread, seen as a better recession predictor.
Notitia newsroom · education, not investment advice.