On Monday, the yields on the 5-year and 3-year Treasury notes became inverted for the first time in more than a decade. What exactly does this mean? A yield curve is considered inverted (as opposed to normal or flat) when longer-term debt carries a lower yield than shorter-term debt. Whenever this happens, which is rare, it's considered to be a potential signal of an impending recession. Such a recession can often range from several months to a few years after yield curves become inverted.
The chart below clearly shows that the 5-year and 3-year yield curve inversion has occurred earlier this week. Now, before we start panicking about this, it should be noted that when most market-watchers and economists warn about inverted yield curves, they're talking more about the 10-year and 2-year note yields the vast majority of the time, and not the 5- and 3-year yields. With that being said, although the 10-year and 2-year note yields have not yet inverted, the spread between the two has become the narrowest it has been since 2007 (when the yield curve was actually inverted). This means that the possibility of an impending inversion has very likely increased.
While this is not meant to scare investors, perhaps it should be a warning that a recession could possibly be on the horizon, and that now may be the time for investors to be more vigilant in proactively managing their investment risk.