by Denise Chisholm, Director of Quantitative Market Strategy, Fidelity Investments
As we enter 2025, the yield curve is un-inverted for the first time in two years. The steepening has been dramatic, if somewhat atypical, given the recent rise in the long end. The belly of the curve has been the last to succumb to a positive slope, but even that has steepened in top decile fashion over the last 6 months. Is that a good or bad thing for stocks in the year ahead?
The answer: Nobody knows. There just isnât a lot of predictive capability here. Steepening, flattening or inversion of the yield curve doesnât have a consistent relationship to future earnings growth, multiple expansion, or overall market returns. Except for 2001, when dramatic steepening gave way to large declines in stocks, the odds of a market advance are almost identical in each of the quartiles of prior steepening.
Despite its checkered history with overall returns, the yield curve has been historically more predictive for some economic indicators. If that sounds strange, earnings and economic growth have increasingly diverged since the 2000s (reason: margin expansion) and - outside recessions - donât always accelerate or decelerate together. But the quicker the steepening of the yield curve, the more likely ISM, a diffusion index, is to advance the year following. The same is true for the LEI (Leading Economic Indicator) and Consumer Confidence (not shown). If youâre worried steepness reflects inflationary concerns, it has usually meant the opposite â inflation has only had 14% odds of a reacceleration.
And although there isnât a consistent relationship to overall returns, the yield curve does hold information for sectors. Consumer Discretionary is most tied to the slope of the yield curve â the bigger the prior steepening, the more likely the sector is to lead historically. Financials arenât far behind. So, the yield curve might not tell us everything we want to know as we start 2025, but it does point to a continued economic expansion and pro-cyclical sector leadership.
This information is provided for educational purposes only and is not a recommendation or an offer or solicitation to buy or sell any security or for any investment advisory service. The views expressed are as of the date indicated, based on the information available at that time, and may change based on market or other conditions. Opinions discussed are those of the individual contributor, are subject to change, and do not necessarily represent the views of Fidelity. Fidelity does not assume any duty to update any of the information.
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