According to Richard Franulovich, head of FX strategy at Westpac, the inversion of the 3m-10yr US yield curve late last week has understandably put US recession risk back in the spotlight given its enviable track record as a predictor of US recessions.
“The yield curve based model accurately predicted all five US recessions that occurred in-sample between 1970-1996 (i.e. the estimated probability of a recession exceeded 50%) and accurately predicted the two recessions that occurred out of sample in 2001 and 2008-2009 too.”
“This same model currently estimates the probability of a US recession at a relatively high 20% over the next twelve months. But, if the curve remains inverted for another two months the probability rises to just over 40%; a very elevated reading.”
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