With chapter 11 filings at the lowest level in 10 years, the world awash with liquidity, and default rates at historic lows, a recent post on the excellent Econobrowser blog last week caught my eye when it suggested that recent yield-to-maturity data "yields a probability-of-recession estimate of 44.3%."

Yesterday’s Reuters news bulletin, pointing to a study released yesterday by the Federal Reserve Bank of NY, further confirmed that the future may not be quite as rosy as present default rates (or, alternatively, bankruptcy lawyer billable hours) suggest.

This study, authored by Arturo Estrella (senior vice president in the Capital Markets Function of the Research and Statistics Group at the Federal Reserve Bank of NY) and Mary Trubin (former economist at the FRB who is now on track to get a Ph.D. in economics at Northwestern U.), concludes that a curve inversion lasting at least three months can signal a recession 12 months before it actually happens.  According to the study, the minimum spreads between three-month and 10-year yields ranged as much as -3.51% prior to the August 1981 to November 1982 recession, to as small as -0.08% before the August 1990 and August 1991 recession.

Thus far, according to yesterday’s news release, 3-month yields have exceeded 10-year yields since mid-July.  The 10-year/3-month spread is presently about -0.26%.

Place your bets!

© Steve Jakubowski 2006