What’s the Deal With That Inverted Yield Curve? A Sports Analogy Might Help

But if you buy a 10-year Treasury note, you’re making a bet on the more distant future. The economy will probably change a lot over the next decade. You can’t predict exactly what will happen, but you are betting on the general direction of things: Do you expect the economy to heat up, creating inflation pressures and causing the Fed to raise rates? Or do you expect it cool down?

So purchase of a longer-term Treasury bond is like making one of those long-term bets with a casino on how a team will perform for many years to come. You have no idea what the details are of which players they will sign or who will be coaching the team. You are betting on the general direction.

How might that bet might look with two different teams?

The Arizona Cardinals were terrible last year, and most bettors expect them to be pretty bad this year as well: Vegas odds suggest they will only win five or six games. But they have drafted an exciting young quarterback (Kyler Murray) and hired a new coach.

Even if you’re not a believer in the Cardinals for this season, you could reasonably expect that they will get better in the coming years — that their future is better than their present. If most bettors believed that, you could tell that from the difference between the price of a 10-year Cardinals betting contract and a one-year Cardinals betting contract — it might reveal, for example, that the team is expected to go from winning 5 games this year to 9 games two or three years from now.

Or consider the Patriots. They have been the best team in the game for the past two decades, but their quarterback, Tom Brady, is 42 years old, and their coach, Bill Belichick, is 67. It would be reasonable to expect the team to decline over the next decade after these stars retire.

The prices of the Patriots one-year contract, in other words, would probably reflect greater optimism than their 10-year contract.

Essentially, the relative prices of those short-term versus long-term betting contracts would tell you whether a team is viewed as likely to be on the upswing or the downswing — not necessarily today but at some point in the next few years.

Article source: https://www.nytimes.com/2019/08/15/upshot/inverted-yield-curve-bonds-football-analogy.html?emc=rss&partner=rss