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Are we on the Brink of Recession?

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Firstly, I want to point out the title of this article. Had I titled the article, “What is an inverted yield curve and why does it matter?” would anyone actually have been interested in reading it? Because I mentioned recession and hinted that we might be on the brink of it, it sounds more interesting (and frightening). This is EXACTLY what the media does all the time. The media is not there to provide you with useful and informative news stories, they are there to sell advertising. Catchy headlines sell advertising, and more specifically fear sells advertising. Remember that when you next see a bad news story; and try to remain objective in the face of the barrage of bad news you are faced with.

Remember too that KiwiSaver and investing are LONG-TERM strategies. When advisers make recommendations about investments, we don’t do this on the assumptions that markets are always going to behave and go up. We also don’t assume that your investments will always do better than cash; in fact, we actually EXPECT the crashes and the downturns. If they didn’t happen, we would not have a normal and efficient market. Corrections NEED to happen to make investments work. Therefore, if you have a long-term strategy, you can bet that in the long-term assumptions we have made, we have assumed that downturns, crises and crashes will happen. What YOU have to do, is steer clear of the noise and the media, and expect ups and downs along the way. The very worst thing you can do is panic and make changes to a long-term strategy based on short term expectations.

So, what is an “inverted yield curve”?

In a healthy economy, you would generally expect to get a higher rate on long term investments than you would on short term investments. This higher return is a compensation for the longer term your money will be tied up or invested.

What has happened recently, is that has reversed and in the US, “Treasury Bonds” (people loaning the US government money) are paying a HIGHER interest rate for shorter terms and a LOWER interest rate for longer terms. This happens when people are nervous about what might happen in the short term and would rather have the security of a longer-term investment.

Why does this matter?

Because history shows that that yield curve has inverted (just like it has recently) before every US recession since 1955. The thing is though, that sometimes it happens moths before and sometimes years before, so it’s an indication that a recession is possible, but doesn’t tell us anything about when or how bad it might be.

There is also a chance that because there have been a lot of strange things going on with interest rates and monetary policy in the last decade, that this may not be a reliable indicator of recession at all!

Does it matter at all then?

It will depend on your time horizon for investment. If you are long term investors, then it shouldn’t make a difference and I certainly wouldn’t be recommending any changes to investments on the back of this alone. If you have a shorter time horizon, then you should have been de-risking your investments anyway into something more appropriate for your time horizon.

 

This article should not be considered to be personalised advice. If you require advice, please get in touch with us.