When policymakers and investors seek economic insight, they often use a tool called the yield curve. A yield curve measures the spread between yields on short- and long-term maturity bonds over time. It’s plotted as a line on a graph, and the slope is sometimes used as a forecaster of economic growth.
In a normal environment, longer-term bonds have often earned higher yields than shorter-term ones, which is a scenario reflected in an upward-sloping yield curve. Incidentally, the same is true of time deposit accounts, namely certificates of deposit (CDs): Longer-term CDs have commonly earned higher rates than their shorter-term counterparts.
At times, the yield curve for securities slopes downward, and this inverted yield curve is said to signal an impending recession (though not always).
What is the yield curve and how does it work?
The yield curve is shown as a line on a graph depicting the interest rates on various maturities of benchmark bonds, such as U.S. Treasurys, at one moment in time. An upward-sloping curve is the most common status quo, which means long-term yields are higher than short-term ones.
Broadly, the yield curve refers to yields of U.S. Treasuries at a given time, across multiple maturities, says James Royal, Bankrate principal investing writer. “If you bought a one-year Treasury — or CD — you don’t have a lot of exposure to inflation. But if you buy a five-year CD or a 10-year CD, there’s a lot of expectations about inflation built into that interest rate.”
“So the yield curve gives you some idea of what return investors are demanding across that curve, and the type of term premium that investors require in exchange for that risk of inflation.”
When shorter-term bonds start to out-earn longer-term ones, this is known as an inverted yield curve. Economists and market watchers consider this scenario to be a predictor of a recession in the near future.
Is the yield curve inverted now?
In recent years, the yield curve became inverted for bonds as well as for CDs. In other words, yields of shorter-term investments started to surpass yields of longer-term ones.
The Treasury curve has started to normalize, while the CD curve remains inverted.
Why did the yield curve invert for Treasury yields?
The Federal Reserve dropped interest rates to near zero in March 2020 to stimulate the economy in the early days of the Covid-19 pandemic. Because of the depressed economic expectations, yields on 10-year Treasurys dropped significantly at that time, Bankrate’s Royal says.
The Fed then began hiking rates steeply in 2022 to combat inflation, which resulted in elevated short-term bond rates and initiated the inverted yield curve. For around two years between 2022 and 2024, the yield curve was inverted when it came to the spreads between the yields on 10-year and two-year U.S. Treasury securities, as well as between 10-year and three-month U.S. Treasury securities. Both of these spreads started to normalize again in the second half of 2024.
An inverted CD yield curve is still in place
Like Treasurys, the CD market began to experience an inverted yield curve in 2022. This meant shorter-term CDs started to earn higher annual percentage yields (APYs) than longer-term CDs. Unlike Treasurys, however, the inverted yield curve for CDs is still in place.
One factor that influences CD APYs is the Federal Reserve’s benchmark federal funds rate. When policymakers change the federal funds rate, APYs on competitive CDs tend to move in lockstep. If the Fed were to lower its key rate in 2025, banks could lower CD rates, in turn, Bankrate’s Royal says, which could serve to normalize the inverted CD yield curve.
“Right now, investors are expecting two more rate cuts by the end of the year,” Royal says. “So that could mean that banks are going to come down probably 50 basis points on the short end of the curve.”
Inverted yield curves’ link to recession
The National Bureau of Economic Research (NBER) defines a recession as “a significant decline in economic activity that is spread across the economy and lasts more than a few months.” There have been 11 U.S. recessions since 1957, and all of them have been preceded by a Treasury bond yield curve inversion.
Why is the inverted yield curve important for you?
Investors may reference the yield curve when making decisions about how and where to allocate their money. Inverted yield curves are commonly associated with a slowing economy — and while they often precede a recession, sometimes they don’t actually precede one, Bankrate’s Royal notes.
“For long-term investors, the smartest move is to continue to invest in a broadly diversified portfolio using money you don’t immediately need, and then hold on even if the economy hits a rough patch,” he says. “That’s how you achieve the market’s long-term return of about 10 percent annually on average.”
— James Royal, principal investing writer, Bankrate
When it comes to competitive CD rates, an inverted yield curve is still in place, with higher-yielding, shorter-term CDs currently earning more than their lower-yielding, longer-term counterparts (among banks and common terms that Bankrate monitors daily).
While it’s important to shop for high CD rates, it’s also vital to choose a CD based on its term length. While a three-month CD may offer a higher APY than longer terms, you’ll ultimately earn more money in interest on a five-year CD with a slightly lower APY, for instance. As such, the term length can be equally, if not more, important than APY when choosing a CD, though you never want to lock up money that you may need during the CDs term.
FAQs
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Inverted yield curves are said to be indicators of impending recessions. In fact, inverted yield curves have preceded every U.S. recession since 1957, according to data from the Federal Reserve.
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For much of 2006 and 2007, yields were higher on two-year and three-month Treasurys than they were on 10-year Treasurys. This was representative of an inverted yield curve. This preceded a recession that lasted from December 2007 to June 2009.
Bottom line
An inverted yield curve happens when yields of short-term investments, such as bonds or CDs, start to out-earn yields of longer ones. When this occurs with bonds, policymakers and investors take note, as it’s often associated with an impending recession.
When it comes to investing in CDs, an inverted yield curve is currently in place, so it could be worth savers’ time to compare rates across a range of terms — although ultimately, it’s important to choose a high-yield CD at whatever term length suits your own personal savings goals and timeline.
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