Why this matters: Real estate professionals need an understanding of the principles for forecasting the real estate market and using available data to give direction to their practice and advising clients on transactions during phases in a business cycle, especially when global influences create uncertainty within California’s real estate market.
Know how your market evolves
The yield spread is a tool you use to form an opinion forecasting the likelihood of a recession one year forward. The yield spread is a figure representing the percentage point difference between two bond market tiers:
- the short-term interest rate controlled by the Federal Reserve (the Fed); and
- the long-term interest rate on the 10-year Treasury Note, determined by bond market participants.
The yield spread figure ran negative in most of 2024, indicating a coming recession likely in 2025. However, the trade wars of early 2025 caused investor attitude about investment opportunities to change course, reflected in the volatility of the 10-year T-Note rate. The yield spread figure became zero, and remains stalled at that level, averaging +0.06 in March 2025.
2024’s profoundly negative yield spread was near its lowest level since 1981, when the Fed was waging its last acute battle against inflation and the economy was tilting into a deep recession.
Today’s flattened yield spread of zero, neither positive nor negative, is the result of:
- the bottoming of short-term interest rates directly influenced by the Fed for fear of rising consumer inflation and excessive job growth; and
- fluctuating long-term rates heading lower as bond market investors see fewer safe alternative investment opportunities.
The Fed will continue its rate-holding strategy until it senses inflation is again under long-term control. Only then will the Fed lower its rate, a likely 2026 event, to match economic conditions resulting from the trade wars.
Meanwhile, property markets are all in their own recession due to:
- a decade plus of increasing FRM rates since 2013 except for covid stimulus,
- a strangled MLS inventory for lack of residential turnover and construction, and
- the unrelenting cooling of the property market after mid-2022.
Updated May 7, 2025. Original copy released March 2010.
Chart update 5/7/25
| April 2025 | March 2025 | April 2024 | |
| Yield Spread | +0.05 | +0.06 | -0.69 |
Confidence about the year to come
To you stalwart members of the real estate profession, a gift: the ability to forecast the probability of future recessions and rebounds, one year forward. This famed and reliable crystal ball is the yield curve spread, also simply called the yield spread.
Don’t let the name yield spread put you off. It is not related to the deceptive yield spread premium (YSP) kickback mortgage lenders paid in times before the MLOs.
The yield spread reflects economic conditions as interpreted by Fed economists and bond market investors. The spread figure is generated on one hand by the Fed using its rate – short term – to fight unacceptable inflation in consumer prices and wages versus the other hand of the wisdom of the vast global crowd of investors setting the long-term rate for the 10-yr T-Note, two diametrically opposed economic perspective.
To use the yield spread, all the layperson has to do is locate the current yield spread figure and apply their understanding about what the figure relays about the future.
That knowledge is provided to you in this article.
Again, the yield spread figure is the difference between two key interest rates:
- the 3-month Treasury bill rate (or short-term rate) set by the Federal Reserve (the Fed) activity; and
- the 10-year Treasury note (T-note) rate (or long-term rate) set by bond market investor outlook.
The short-term market rate
The initial piece of information needed to calculate the yield spread is the interest rate on the 3-month Treasury bill. This interest rate is influenced exclusively by the Fed as the base price of short-term borrowing. It is the Fed’s primary tool for keeping the U.S. economy balanced.
The Fed has direct control over this short-term rate through its Federal Funds Rate. The Fed can:
- lower interest rates and stimulate economic growth to stave off deflation and economic stagnation; or
- raise interest rates and slow economic growth to fight inflation and excess demands for labor.
Related chart:
Collectively, the Fed’s use of short-term interest rates and other infusions and withdrawals of dollars to control the economy is known as monetary policy.
Related article:
The long-term market rate
To make a profit on their long-term investments, bond market investors generally consider how the Fed’s monetary policy will impact the future performance of markets. These millions of private individual investors forecast future economic conditions which translate via the 10-year T-note bond markets into a ready gauge for determining future market conditions (and mortgage rates), the wisdom of the crowd call out.
These 10-yr T-note investor considerations encompass two discrete elements:
- the desired fixed rate of return on the investment before adjustments for risks, called the real rate of earnings; and
- the perceived future rate of inflation, called the inflation risk premium;
- collectively, the rates are built into the 10-year T-note rate.
Interplay between the treasury rates = the yield spread
Calculating the yield spread is simply a matter of subtracting the 3-month T-bill rate from the 10-year T-note rate. Never the other way around.
Generally, a low or declining yield spread indicates a less vigorous economy one year forward. A declining yield spread is a result of bond market investors seeing less future growth resulting from the Fed’s short-term rate activity and other economic interruptions or stimulus – the global economy’s relationship to ours.
On the flip side of an economic cycle, a higher or rising yield spread indicates a more vigorous future economy. While good for bond market investors whose actions are full-speed-ahead into investment opportunities for profit, a too-high yield spread (and its resulting boom) poses a danger for consumer inflation. When the spread is unacceptably high, the Fed acts to curtail the growth of future jobs and stabilize consumer prices by raising short-term rates.
An over-correction has the potential to send the yield spread into low or negative levels. When the yield spread goes negative for a period of around 4 months, called an inversion, a recession follows 12 months later. Most recessions are Fed instituted to correct for economic distortions. Periods of pandemics and wars (think trade wars in 2025) are recessionary periods by themselves and chaotic in behavior.
A yield spread inversion is the result of:
- the bond market envisioning a future downturn in the economy; and/or
- the Fed raising short-term interest rates to correct consumer inflation or loosen money market conditions.
Sometimes even a near-inversion is enough to signal a recession.
That crossover moment in the yield spread gives the real estate broker and agent another signal to adjust their business conduct. At the crossover into a negative yield spread, agents can expect a reduced volume in sales (which are likely already slipping), lending and leasing one year forward.
Then, in a further 12 months, a drop in prices, loan rates and rents is experienced. This 12 month delay after sales volume turns downward is the result called the sticky price phenomenon, brought about by money illusions held by sellers and landlords.
Reading the chart and current trends
In the above chart:
- the red line tracks the yield spread from January 1955 through today.
- The yield spread dips below zero when the short-term rate rises above the long-term rate. This is the inversion point.
- +1.21 is the point for which the probability of recession begins, as calculated by Fed economists. Yield spreads smaller than 1.21% predict successively greater probabilities of recessions one year forward.
The last time the yield spread was negative was in mid-2019, signaling the coming 2020 recession which was declared in February 2020. However, in March 2020, the covid pandemic crashed the economy leaving income from jobs and business decimated. Massive stimulus and general economic disruption rippled for three years up to 2024 before mostly disappearing.
Each time since 1960 when the yield spread went negative we were in a recession approximately 12 months later.
Going into 2025 we will not get the recession the yield curve indicated for this year, but something else. This might include a recession for other reasons. We now find ourselves in a trade war which is global and very disruptive to businesses at the moment, with jobs not yet impacted. It is likely we will soon see a rapid decline in jobs. Thus, incomes and standards of living, as well as a jump in the level of insolvency of households and businesses, will be affected when job numbers decline.
Related chart:
Real estate’s stake
Going forward, more and more brokers and agents need to understand the workings of the yield spread as a gauge of the economy’s direction for the coming 12 months. Only then, with this insight, will industry-wide frenzies to over-build, over-price and over-acquire be tempered.
Brokers and agents who track the yield spread glean the foresight needed to shift their advice to clients and personal spending before the changes in the market actually occur. In doing so they will seek out recession-proof niches of real estate (such as real estate owned (REO) sales, MLOs designation, or property management) in which to weather the storm.
The yield spread, reflecting the difference between short-term borrowing rates set by the Fed and long-term Treasury Note rates, serves as a forecast tool for economic downturns and upturns. Persistently negative since November 2022, hitting lows reminiscent of the 1981 recession, it indicates a cooling economy. This inversion stems from Fed-driven short-term rate hikes and subdued long-term rates, signaling a forthcoming recession, with housing market effects already evident. Expect continued sales declines in 2024, with prices stabilizing around 2026, barring seasonal fluctuations.
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Thank you for putting this information together and providing context for your analysis. I did note one minor error in the section Reading the chart and current trends: “the red line tracks the yield spread…” I believe this should be the blue line tracks the yield spread… Again, thank you for very clearly explaining the yield spread influence on our economy.
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