Latest / The Bear Market Podcast with Fexingo: Surviving Downturns, Buying the Dip, and Long-Term Resilience / How a Steeper Curve Signals a Slower Economy
Transcript
- Lucas: So Luna, you see the 30-year Treasury at 5.23 percent right now, and the ten-year at 4.69. Those are numbers we haven't seen in over a decade. And the thing is, they're climbing at a moment when real GDP growth has actually slowed to 1.5 percent annualised. That's a weird combination, and it's worth unpacking. Luna: Yeah, it does feel backwards. Usually when growth slows, yields fall because the Fed cuts rates. But here, long-term yields are going the other way. What's driving that? Lucas: Right, so the Fed controls the short end more directly. The two-year is sitting at 4.19, basically flat. But the long end is a different animal. It's driven by inflation expectations, fiscal policy, and the sheer supply of Treasuries the government is issuing. And right now, all three of those are pushing yields higher. Luna: So the bond market is basically saying, we're worried about inflation and the deficit, even if the economy is cooling. Lucas: Exactly. And that's the classic stagflationary signal. You get this steepening curve, not because the Fed is easing aggressively, but because the long end is repricing risk. The ten-year to two-year spread is now fifty basis points, and it's mostly coming from the longer maturities. Luna: And for homeowners, that's a real problem. Because mortgage rates are tied more to the ten-year and 30-year than to the Fed's short-term rate. Lucas: Exactly. We covered that in episode 164, but it's worth hammering home. The 30-year mortgage rate is now pushing toward 7.5 percent, and that's not just a new-home problem. It's also a drag on people who locked in 3 percent rates and now can't move without giving that up. That's the lock-in effect, and it's still with us. Luna: And small businesses are feeling it too. Their borrowing costs are linked to the long end, and when they see 30-year yields climbing, they're going to pull back on expansion plans. Lucas: Right. And the data backs that up. Real GDP growth has already cooled from 2.1 to 1.5 percent annualised, and a big part of that is business investment slowing. The bond market is essentially telling us that this cooling is going to continue, if not get worse. Luna: So does the stock market seem to be ignoring this? The S&P 500 is only down 0.9 percent over the past five days, which is almost nothing. Lucas: Yeah, and the VIX is down at 15.13, which is pretty complacent. But the VVIX, the volatility of the VIX, has dropped over 8 percent. That might actually be the more telling signal, because it suggests that options traders are getting comfortable with the idea that the market is going to stay calm. Luna: But that calm might be false. Historically, when you see a steepening curve like this, it's often a precursor to a slowdown in earnings growth. Lucas: Absolutely. And that's what we've been talking about in recent episodes. The market is still near record highs, but the bond market is telling a different story. If you're a long-term investor, you need to be asking yourself whether that disconnect is sustainable. Luna: So what's the takeaway for someone who's not a bond trader? How does this affect their portfolio? Lucas: Well, first, it's a reminder that diversification matters. If you're heavy in growth stocks, you might want to think about how they'll hold up if the economy slows further. Second, it's worth looking at sectors that tend to do well in a slowdown, like utilities or consumer staples. And third, don't ignore the bond market. It's often a smarter predictor than the stock market. Luna: And it's not just about the US. If you look globally, other economies are seeing similar dynamics. Japan's 30-year is up, Europe's long end is up. It's a global phenomenon. Lucas: Right, and that's partly because of the Fed's own policies. They've been signaling that they're not going to cut rates aggressively, even as growth slows. That's putting upward pressure on long-term rates everywhere, because investors are saying, hey, inflation might not be as dead as you think. Luna: And that's the real fear, right? That the Fed is stuck. They can't ease without reigniting inflation, and they can't tighten without tipping the economy into recession. Lucas: That's the classic policy trap. And it's exactly why the long end of the curve is so important to watch. It's the market's way of saying, we're not sure the Fed has a good path forward. Luna: So for a listener who's trying to make sense of this, what's the one thing they should take away? Lucas: I'd say, pay attention to the 30-year yield. It's a signal for both the economy and your portfolio. When it climbs like this, it usually means trouble ahead. And if you're a homeowner or a small business owner, it's directly hitting your wallet. Luna: Honestly, if this episode helps you think about your own financial decisions differently, that's what matters. And if you're able, supporting the show is the best way to keep these conversations going. You can do that at buy me a coffee dot com slash fexingo. Lucas: Yeah, it really does help us keep the podcast ad-free and independent. Even a small contribution makes a difference. But now, back to the bond market. One thing I want to dig into is the mechanics of how the 30-year is priced. It's not just about inflation expectations; it's also about the supply of Treasuries. Luna: Sure. The government is issuing a ton of debt to fund the deficit, and that's putting pressure on prices, which pushes yields up. Lucas: Right. And the auction dynamics matter. When you see a weak auction, it's a sign that even big institutional buyers are balking at the current yield. That's a signal that rates have to go higher to clear the market. Luna: And we saw that recently with the 30-year auction. There was a lot of talk about the tail and the bid to cover ratio being below average. Lucas: Exactly. That's a red flag. It means demand is not keeping up with supply. And that's not just a technical detail; it's a fundamental issue. The government's borrowing needs are growing, and if the market can't absorb it at these yields, something has to give. Luna: So what could give? Either the Fed steps in and does more quantitative easing, which would be tricky with inflation where it is, or the economy slows enough that tax revenues drop and the deficit gets even worse. Lucas: Yeah, it's a vicious cycle. And that's why the bond market is so anxious. You have this feedback loop between higher rates, slower growth, and a bigger deficit. It doesn't resolve easily. Luna: And the stock market seems to be holding up because earnings have been okay, but how long can that last if the economy keeps cooling? Lucas: That's the big question. Historically, when the yield curve steepens this much, it's about a year ahead of an earnings downturn. So if we're seeing this now, we could be looking at a rough 2027 for corporate profits. Luna: That's a sobering thought. But it also means there's time to prepare. If you're an investor, you can start positioning for that scenario. Lucas: For sure. And that might mean shifting towards more defensive sectors, or even holding more cash to take advantage of higher yields on short-term bonds. The two-year is still above 4 percent, which is not a bad return for a safe asset. Luna: Right. So it's not all doom and gloom. There are opportunities, but you have to be aware of the risks. Lucas: Exactly. And that's the whole point of this podcast. We're not here to scare you, but to help you think clearly about what's happening and make informed decisions. Luna: And the key is to keep an eye on those long-term yields. If they keep climbing, that's a warning sign. If they stabilize, maybe the market can digest it. Lucas: Yeah. I'm watching the 10-year specifically. If it breaks above 4.8 percent, that's going to be a big deal. It could trigger a repricing across assets. Luna: Let's hope that doesn't happen, but it's good to be prepared. Lucas: Always. Thanks for listening, and we'll be back soon with more insights.