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iShares Core S&P Small-Cap ETF

Contrarian Calls, Revisited: Barry Knapp on Yield Curve Inversion

What Was Said

In this podcast’s pilot episode last April, economist Barry Knapp of Ironsides Macroeconomics discussed the economic news of the day: the 3-month/10-year yield curve inversion.

The conventional wisdom at the time was that the yield curve inversion would lead to recession in the U.S.

But there had been numerous “false positives” from the yield-curve indicator in the past, Knapp said: 1966, 1998, and 2005. “There was no evidence that the inversion of the yield curve was really having any demand side effects on the actual availability of credit,” he said at the time. “It’s not debilitating for growth.”

The U.S. consumer remained healthy as households continued to delever from the excesses of the 2008 financial crisis. “The savings rate is high, income growth is picking up,” Knapp said. While global exports were slowing, this was “not enough of a shock to drive the U.S. into a recession.”

Additionally, there were reasons to believe the inversion wouldn’t last long. The Federal Reserve was indicating that its next Treasury-buying initiatives were more likely to lead to a steepening of the curve.

Knapp was bullish on bank stocks, having upgraded his view in 2017. He also liked U.S. small caps, expecting a rally on domestic demand.

What Happened

Ten months later, there are no signs of recession for the U.S. economy. Financial stocks have done well, judging by the SPDR S&P Bank ETF (KBE), which is up more than 14% in the intervening months:

Small caps have also done well, with the iShares Core S&P Small-Cap ETF (IJR) gaining more than 11%:

The 3 month/10 year yield curve stayed inverted for a few months before steepening. It has since inverted again, though this time few economists are calling for a recession.

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The Contrarian Investor Podcast: Pilot Episode

The inverted yield curve, with guest Barry Knapp of Ironsides Macroeconomics

Act I: Host introduces an area of conventional wisdom in financial markets or the economy, something that has perhaps already been priced in to markets. In this case: the inverted yield curve and what it is saying about (slowing) economic growth in the U.S. (1:41)

Act II: Enter the contrarian. In this case Barry Knapp of Ironsides Macroeconomics LLC. (2:20)

Break: Placeholder to shout out to sponsors and tell people how and where to follow the guest and his or her research. In this case please check out the guest: ironsidesmacro.substack.com (11:20)

Act III: Host attempts to play devil’s advocate, questioning the contrarian’s thesis . (13:25)

Act IV: Actionable insights. What concrete steps might investors take if the contrarian is correct? What stocks, bonds, indexes, sectors should they look to? (23:00)

Disclaimer: Nothing said here should be considered investment advice.

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