• People assuming that a recession will occur within the next year or so

• Global growth risks are increasing

• Inverting yield curves may not be reliable indicators of recessions – but should not be ignored

• Low interest rates could be a double-edged sword

• Malaysia lagging in structural factors

There was no vacation from financial market volatility as investors worried that the global economy is about to slip into recession. An inverted yield curve, as measured by the difference between longer and shorter-term bond yields, is one of the more reliable recession predictors. The difference between the 10-Year Treasury and the 3- Month T-bill has been negative for a couple of months now, but the difference with the 2-Year Treasury turned negative briefly last week. Markets gyrated as the spread between the 10- and 2-year US Treasury turned negative for the first time since 2007. Financial markets seem to expect that the sharp slowdown in growth overseas will soon spread to the US.

Notably, there is a long and variable lead time on the signal coming from the yield curve. Anywhere from one to two years in the case of the 1990, 2001 and 2008 experiences. The yield curve signals that bond investors expect the economy to get worse before it gets better, but it is not a definitive signal that a recession is imminent. We look at a suite of indicators to see whether the economy is close to a recession. Leading Economic Index has deteriorated, but is not yet flashing recession. It is similar to the 2015-16 slowdown, when the Fed paused on its new tightening cycle due to global weakness.

All told, the risks of a recession have increased since the White House ratcheted up trade tensions with China. That said, we still expect the Fed to continue its risk management approach and cut rates in September. The negative yield curve raises the probability that they take further action in the months ahead.

Source: BIMB Securities Research - 23 Aug 2019