US bond market issues warning signal of economic slowdown

The Treasuries market issued a warning signal on Tuesday and investors piled into safe-haven assets, evidence of fears of a potential recession gripping global markets.

Yields on 10-year US government bonds fell below those on two-year bonds for the third time this year. So-called yield curve inversions have preceded every US recession in the past 50 years – not immediately, but over the next two years.

Investor sentiment has weakened in recent days on signs that persistent inflation that has driven up prices of commodities from fuel to food, as well as rising borrowing costs as the Federal Reserve raises interest rates, weighs more heavily on businesses and households.

A survey by the Institute for Supply Management late last week of the U.S. manufacturing sector pointed to a drop in new orders and employment last month, heightening concerns about the state of the largest economy of the world.

A Federal Reserve Bank of Atlanta forecast that factors in incoming economic data now points to a 2.1% annualized decline in U.S. economic output in the second quarter, following a decline in the first quarter. A recession is generally defined as two consecutive quarters of contraction.

In the UK, Bank of England Governor Andrew Bailey warned that “the global economic outlook has deteriorated markedly”.

Line chart of $ per € showing the euro slipping to the lowest level in two decades

Meanwhile, the euro fell to its lowest level in two decades as traders rushed to the safety of the dollar.

“The dollar remains this main safe haven. . . and this is a factor that exacerbates the [euro] movement. People want money in times of stress and anxiety,” said Jane Foley, head of FX strategy at Rabobank.

Investors are reducing their expectations of a Fed rate hike as the economic outlook darkens. Futures markets indicate that the US central bank should now raise benchmark rates to 3.3% by the start of 2023, down from projections three weeks ago of 3.9%.

The Fed’s benchmark interest rate is in a range of 1.5% to 1.75% after a series of hikes this year.

Details of the Fed’s latest monetary policy meeting, due out on Wednesday, could give further clues as to how much it is willing to tighten monetary policy. A US jobs report released on Friday will also signal the level of capacity in the country’s labor market, a yardstick that could also influence the Fed’s decision-making.

The slowdown in the US economy and the Fed’s still-aggressive tightening plans, however, supplanted some inflationary fears. Oil prices – a crucial part of inflation measures – suffered their biggest falls since March on Tuesday as worries about demand hit the commodity market. Brent, the international benchmark, fell 9.5% to $102.77 a barrel, while U.S. marker West Texas Intermediate fell 8.2% to $99.50.

Commodity strategists at Citigroup said on Tuesday that a recession was “increasingly likely.” They said that under this scenario, the price of oil could reach $65 a barrel by the end of this year and $45 by the end of 2023, assuming OPEC and its allies do not intervene. on the market.

The disappearance of inflation risks also drove the Nasdaq Composite higher, ending the day up 1.7%. The index is heavily weighted towards technology stocks, which are particularly affected by inflation because a large part of their valuations are based on future earnings forecasts. The blue-chip S&P 500 stock index ended the day up 0.2%.

Additional reporting by Nikou Asgari

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