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Yield Curve’s Turn Puts Microscope on U.S. Economic Reports

Yield Curve’s Turn Puts Microscope on Next U.S. Economic Reports

(Bloomberg) -- Economic data rolling in over coming days will go a long way to show whether market concern of an imminent U.S. recession is justified.

A slice of the Treasury yield curve that usually signals a downturn inverted this week by the most since 2007, pushing beyond levels seen in March. That followed recent reports showing April declines for U.S. retail sales, factory output, business-equipment orders and home purchases, while a manufacturing gauge dropped in May to a nine-year low.

Yield Curve’s Turn Puts Microscope on U.S. Economic Reports

Investors have also been fretting about the U.S.-China trade war after President Donald Trump raised tariffs this month and threatened more, with no end in sight for negotiations.

It all puts even more weight than usual on the next round of economic reports, starting with Thursday’s revised reading of first-quarter growth and culminating with the May jobs report on June 7.

Commerce Department data released Thursday showed that U.S. economic growth last quarter was revised down by less than expected amid stronger consumption and exports than initially reported. Inflation-adjusted gross domestic product increased at a 3.1% annualized rate in the January-March period, compared with an initially reported 3.2%.

The figures may alleviate some investor concern that the economy is losing momentum after a deepening of the inversion in the Treasury yield curve underscored worries about a recession.

The gap between three-month and 10-year Treasury rates dipped Wednesday to as much as 14.3 basis points below the three-month rate, before ending the day around 9.3 basis points below. The spread has inverted before each of the last three recessions, with Federal Reserve research highlighting its significance.

Economy Fears

“Markets are looking further ahead and they’re seeing these trade risk headlines -- which have certainly flared up in recent weeks -- and you’re seeing it hit some of the industrial data and manufacturing numbers,” said Sarah House, senior economist at Wells Fargo & Co.

While she isn’t predicting the American economy to contract, recent developments have “piled onto fears that we’re seeing the global economy slip again, and whether that might pull the U.S. into a recession,” House said.

Other economists expect growth to weaken significantly this quarter without marking the end of the expansion, which is poised to become the nation’s longest on record if it continues through July. Data Friday may show consumer spending and inflation were subdued in April, while surveys of factories and service providers will give a sense of the economy ahead of the all-important payroll and wage figures.

Yield Curve’s Turn Puts Microscope on U.S. Economic Reports

Markets expect the Fed to cut interest rates this year, and Trump has been pressuring the central bank for such a move. But policy makers have stuck to their patient stance which may last for “some time,” according to minutes of the Fed’s last policy meeting, and Chairman Jerome Powell has maintained the economic outlook remains positive.

Some indicators remain healthy, including elevated measures of consumer sentiment. Filings for unemployment benefits have stayed low, suggesting employers are still struggling to find workers. That should help keep pushing up wages and buoying consumer spending, the largest part of the economy.

But companies have curbed investment or put it on hold while global growth slows and the U.S.-China tariff war clouds the outlook. That’s been compounded by the lack of trade pacts yet with Japan and the European Union, and the fact that the new U.S. agreement with Canada and Mexico remains in limbo.

Commodity Prices

“We are sitting here watching the yield curve pretty darn closely,” said Doug Peebles, chief investment officer of fixed income at AllianceBernstein, which manages $568 billion in total assets. “But it’s not the only thing we are watching.”

He’s also got his eye on prices of commodities like oil, copper and lumber, and together these indicators are telling investors “that this trade war is very important at the moment -- or the fear is that it will be in the future.”

Investors haven’t been reacting only to tariff news. China geared up to weaponize its dominance in the rare earths market -- critical to defense, energy and electronic industries. -- after the U.S. blacklisted telecommunications-equipment maker Huawei Technologies Co.

“The downside risks to growth have certainly increased over the last couple of weeks,” Pacific Investment Management Co. economist Tiffany Wilding said on Bloomberg Television.

The economic impact of the tariffs will be relatively small, but the “more important point here is that it’s happening during a time when global growth as well as U.S. growth was already on a decelerating trend,” she said.

To contact the reporters on this story: Katia Dmitrieva in Washington at edmitrieva1@bloomberg.net;Liz Capo McCormick in New York at emccormick7@bloomberg.net

To contact the editors responsible for this story: Scott Lanman at slanman@bloomberg.net;Benjamin Purvis at bpurvis@bloomberg.net

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