Interest Rates and the "All Important" 3% Level

09/21/2018 5:00 am EST

Focus: MARKETS

Mary Anne & Pamela Aden

Co-Editors, The Aden Forecast

U.S. interest rates are at a critical juncture, near 3% on the 10 and 30 year yields; this is a very important level because it identifies the mega trend, asserts market timing experts Mary Anne and Pamela Aden, editors of The Aden Forecast.

Since U.S. interest rates tend to set the tone for interest rates in the other developed countries, we’re watching closely to see what happens next. The bottom line: if the 30 year yield stays clearly above 3%, then the mega interest rate trend will be up, signaling rates are going a lot higher in the years ahead.

This would be reinforced if the 10 year yield also rises and stays above 3%, and it would be an inflationary sign. On the other hand, if these two key interest rates stay below 3%, it would strongly suggest that this era of generally low interest rates is going to continue.

Trump is doing all he can to “talk down” interest rates. He’s made it very clear he doesn’t want rates to rise further and he’s been putting pressure on the Fed to not raise interest rates because it could hurt the firm economy.

Another reason no one wants higher interest rates is because of the potential of an inverted yield curve. To refresh your memories, these are not good news.

Under normal healthy conditions, short-term interest rates (like 90 day Treasury-Bills) should pay a lower interest rate than a 10 year note. The reason being that a longer-term Treasury involves keeping your money tied up for a longer period of time, which warrants a higher interest rate.

But when this relationship gets out of whack, with the T-Bill interest rate higher than the 10 year yield, it’s called an inverted yield curve. This is also a leading economic indicator, signaling caution ahead.

Historically, an inverted yield curve has almost always meant that a recession will unfold about one year later. And since the stock market tends to lead recessions by about 6 months to one year, an inverted yield curve also means the stock market is near a peak, and a bear market decline is likely up-coming.

Currently, the difference (or spread) between the 3 month T-Bill rate and the 10 year yield is less than 1%. That is, if T-Bills keep rising just a bit further, the yield curve will invert.

The spread would then drop below zero, like it did in 1973-74, 1979-80, 1989, 1999-2000 and 2006, prior to the recessions that followed. So for now, the yield curve is fine, telling us no recession is in sight. But it’s getting too close for comfort and it’s yet something else we’re watching closely.

All things considered, the outcome for interest rates in the weeks and months ahead is going to be important and it’ll affect all of us. For example, if interest rates keep rising and the mega trend clearly turns up, it would be bad for the world economy, likely slowing it down. It would also put further pressure on the emerging countries, possibly resulting in a financial crisis. And it would be a sign inflation is perking up.  

However, if the 10 and 30 year yields stay below 3%, things will likely continue to plug along, like they’ve been doing. That is, the economy would likely stay firm. This in turn would be good for stocks, and bonds could head higher too. So stay tuned... and continue to watch the all important 3% level.

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