Okay folks, so about a month ago, we were talking about how one of the freakiest data points was the rapidly dropping spread between short and long-term bond yields, Which, of course, the inversion of the two has been considered one of the most reliable recession indicators throughout modern history. Now it's April 5th, and this is where we are at now. On that same exact chart, the two and ten year bond yields are the most inverted. they've been in 15 years at any point since 2007, and this has been in the making for a while.

On March 18th, the three and five-year bond yields inverted on March 28th, the five in 30. and then most recently on Friday, and then again yesterday, the most commonly referenced bond yields that people talk about when they say yields are inverting the two in tenure. Also, invert it, and I want to explain to you violently in roughly five minutes, why bond yields are seen as such a negative omen. The history and statistics as to how frequently this actually results in a recession, and what it actually means this time around, and you might be surprised.

So the concept of an inversion is pretty simple. It means that the interest rates on short-term bonds are higher than the interest rates on long-term bonds. For example, on Friday, the yields on two-year treasury notes hit 2.44 percent, whereas on 10-year treasury notes, it was only at 2.38 Short-term yields surpassed long-term yields, which is the opposite of a regular market. So what causes the inversion then well as the demand for long-term bonds increase.

The yields get downward pressure. But what is really happening at the moment is that the demand for long-term bonds is outpacing the demand for short-term bonds. So while both yields are going up net, long-term bonds are seeing more demand right now, which is why you keep getting these areas where they invert. It's important to note that net both long-term bonds and short-term bonds are being sold off, which is why both have increasingly upward yields.

But the key difference is that long-term bonds are seeing more demand, causing yields to actually sometimes trail short-term bonds aka invert them. People pour into long-term bonds as a safe haven asset, and that drains capital out of pretty much everywhere else, but it also signifies that more people are going risk-averse In that sense, bond yield inversions kind of mean that the market is predicting a higher likelihood of a incoming recession or incoming reason to be scared, and to some extent, yield inversions can be a self-fulfilling prophecy in and of themselves. Not only does buying long-term bonds draw liquidity out of the market, but if you think about how our lending system works, you have banks that go and lend money. How do they make money? They borrow capital at short-term rates, and they try to lend it out for long-term rates.

But when you get an inversion, all of a sudden, those long-term rates that were higher and the short-term rates that are lower actually go like this as that gap closes, lending becomes less and less profitable, and so it's harder and harder to borrow money now. Of course, pushing the economy in that direction is something that the Fed is trying to do by overall trying to hamper demand to fight inflation. But at the same time, if taken too far, it can certainly be very, very deadly for an economy. Now, with that said, what is the historical accuracy of the yield curves? What kind of accuracy Is it yielding? Well, you go back to 1900.

The lag between a yield curve inversion and the start of a recession has averaged about 22 months, according to Kiplinger, But since the 1980s, that time span has ranged from six months to as long as three years. I know that it's super easy to look at a chart and say, oh well, Every time the bond yields inverted, you got a recession eventually afterwards. The problem with that, though, is that many periods throughout the yield curve's long history, its indications have been extremely unhelpful or very coincidental. For example, in 1998, after the yield curve inverted, it took 34 months for a recession to hit.

Before that, in 1965, it took four years for a recession to hit after they inverted, And on the flip side, in 2019, you had one of the most accurate predictions of the yield curve ever. It inverted, and then about six months later, you had the massive coveted crash. Hard to credit, the yield curve with predicting covet, so at best it was a coincidence. And it's also worth mentioning that if you look at the bigger picture, the Us.

economy has averaged one recession every five years since 1900, and while recent decades have been more like one recession every 10 years if you actually look at since 1900, which is what most people refer to when they talk about the accuracy of the bond yields, The problem is that if you get one recession every five years on average in that time period, and the yield curve's predicting range can be as much as three or even four years, it gives the inverting yield curve too much margin for error. It's hard to be wrong if your range is literally most of the economic cycle. Not to mention that the last four times we got an inversion, we saw an average of 28.8 returns in the S P 500. After that, to the peak, the real problem with bond yields and bond yield inversions as indicators for market recessions has to do with how artificial the market is for bonds, which arguably and irredeemably corrupts the curve.

In order to support markets and stability, they dramatically and insanely increase their balance sheets by buying bonds, which is a massive, massive artificial purchase and skews the supply and demand on both sides, both when you're buying and when you're unloading because of the insane level of artificial intervention in the bond market. it's very difficult to draw in a clear and direct conclusion Based on short-term movements of these yields. Here's an analogy: So in Southern California, where I live, it doesn't rain much, so we have to get our water from up north, where it does rain a lot. The natural lack of water in Southern California is artificially fixed by bringing in water from the north via pipeline or aqueduct.

Then it ends up eventually into reservoirs or into homes and businesses. So if I went down to my local reservoir and saw that it was full, wouldn't it be stupid for me to conclude based on how full it is and based on the fact that there's a lot of water in it, that oh, we must have had a very good rain year? Sure, that could certainly be a contributing factor, and it actually did rain a decent amount this past year in L.a But the reality is that it's impossible to say at first glance because of the fact that most of the water gets artificially shipped in from the north. Anyways, if you went to a reservoir that was 100 filled by rain water and saw that it was full, you could actually conclude that hey, it must have been a good rain year. Or if it wasn't full, you could say oh, it was a bad rain here.

But if you have massive artificial intervention, you can't do that in a similar way. We are forced to look at surface level printings of the Bond market and then try to make conclusions. Oh, we can't see where it would be if the Fed hadn't intervened. We're sitting back and saying, oh yeah, everything's natural here, when in reality nothing is natural.

But at the same time and a credit to the bond yield inversion data point. if you cut off the artificial intervention of bringing water down south to Socal, that would have huge consequences for the region. And in a similar way, we're about to see what happens when the Fed starts cutting off intervention in the Bond markets and in terms of the overall economy. So sure, perhaps bond yields are one data point that you can look at.

But more important indicators in terms of judging the economy and the trajectory are things like the unemployment rate, the inflation rate versus household income and spending and savings, competitiveness of the Us dollar, so on, and so forth. Anyways, folks that caps off today's video. Hopefully it yielded some understanding if you're looking to learn how to trade with our step-by-step lessons, private chat, daily morning briefings as well as of course our full price target list. I'll put a link to Zip trader you below coupon code.

Never give up because we never give up in the market fud or favor. Anyways, have a good one and I'll see you in the next video.