A lot of attention has been given to an “inverted yield curve” and its ability to signal a recession. An “inverted yield curve” is an interest rate environment where long-term debt instruments have a lower yield than short-term debt instruments of the same credit quality. Typically, you expect a higher yield for lending your money for longer periods of time. The gap between short- and long-term Treasury yields has stabilized after inverting in August easing concerns about the direction of the U.S. economy.
Historically, there have been five inversions since 1978 and each one preceded a recession by an average of 22 months, according to research from Credit Suisse. During this time stocks have rallied more than 15% on average in the 18 months following an inversion. One important dynamic that does not get as much attention is that the yield curve must remain inverted for at least three weeks before it is said to be predictive of an impending recession. The curve has not remained inverted for a sustained period of days, much less weeks.
We think that our approach to equities is particularly well suited for this particular market environment. With the prospect of corporate earnings expansion limited by slowing global growth, it is an ideal environment to seek out great companies that can pay above market yields and grow their businesses. Our risk weighted portfolio construction is designed to capture market upside while providing less volatility in down markets. Our focus on identifying stocks with strong balance sheets and the ability to generate meaningful cash flows enable these companies to weather a downturn.
