Talking about a global recession could create a "catastrophic loop"

A bond market signal that almost always announces a recession in the United States was flashing red on Thursday, causing a new wave of volatility in the financial markets as worries about the global slowdown intensified.

The supposed catalyst of the carnage was harmless, at least for those who were not actively involved in the financial markets.

Following the release of weak Chinese and German data, the yield on 10-year US Treasuries fell below that of 2-year Treasuries, reversing for the first time this portion of the US yield curve. since 2007.

As many investors will remember, it was just before the global financial crisis of 2008, the deepest economic downturn that the world has seen since the Great Depression.

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This is not the only time a reversal of this part of the US bond curve accurately predicts a recession.

"Historically, the yield curve has been a reliable indicator of the recession," said Kerry Craig, global markets strategist at JP Morgan Asset Management.

"Seven of the last nine times that gap between 10-year and 2-year US became negative, a recession followed.This was not immediate and it took on average 14 months to that the recession begins after inverting the yield curve. "

Given its predictive capabilities, it is not surprising that a few seconds after the reversal, an impending recession in the United States made headlines, contributing to the sell-off of riskier asset classes. As a result, it is not only those who work or follow the financial markets who were aware of the power of the yield curve to predict recessions, but many.

Given the importance it has received, does this increase the risk of behavior change for investors, businesses and consumers, creating the potential for a "catastrophic loop" that could actually cause a recession?

Although the future is not certain and that trying to predict the actions of a collective group is fraught with difficulties, the strategists believe that the coverage obtained through the inversion of the curve Rates of return has increased the risk of a global economic downturn.

"That's the case," said Damien McColough, head of Westpac Bank's rate strategy.

"The reversals of the yield curve were good predictors of recessions in the past, but they were not perfect.

"However, widespread coverage of the current reversal in the media will certainly have an impact on behavior that can definitely come to fruition, especially when it comes to influencing market metrics." most commonly followed such as actions. "

McColough said the decline in government bond yields over the long term, which led to the latest reversal of the US bond curve, reflects not only the fact that investors are downgrading their expectations of US bonds. global growth, but also the ability of central banks to stimulate economic activity.

"The outlook for global growth is revised downwards, which explains the expectations of real yields as well as the associated inflation expectations," he said.

"With such low returns – with high levels of household, government and corporate debt – it is harder for monetary policy to affect the real economy in the same way as the past."

Rodrigo Catril, chief foreign exchange strategist at the National Australia Bank, agrees that the focus on the yield curve could exacerbate concerns about the economic outlook.

"Negativity has become an integral part of mainstream media and this has an impact not only on the markets, but also on the real economy," said Catril. "You see a slowdown in investment decisions."

While all recent attention is focused on reversing the US yield curve between 2 and 10 years, Mr. Catril said the most worrying aspect is that all US curves are looking for now to reverse it.

"The inversion persists and the concern is not to see a breaker in terms of feeling," he said.

"This makes one fear that this will become a self-fulfilling prophecy."