Morgan Stanley issued the following announcement on April 1.

As U.S. economic indicators go, an inverted yield curve—when short-term rates are higher than longer term rates—is one of the most reliable. Historically, a recession often comes about a year after the yield curve inverts for the first time, and a bear market may show up even sooner.

Last week, the yield curve inverted for the first time since 2007, as the 10-year Treasury yield fell to 2.39%, below the three-month Treasury yield of 2.43%. This was a result of the extremely dovish turn in Federal Reserve policy announced March 20. Many investors concluded that a recession must be around the corner for the Fed to drop its plans to continue to increase rates and shrink its balance sheet this year. Indeed, futures markets now anticipate that a Fed rate cut could come as early as September.

I’m not convinced a recession or a rate cut is coming soon. Below are three reasons why I think neither is imminent and I believe investors should stay the course with their long-term asset allocation plan:

The yield curve’s signaling power may have been distorted. I respect the yield curve as an important indicator, but there are a few technical reasons why it may be amiss in its forecasting ability right now. Rapid swings in Fed policy, particularly regarding its balance sheet, have played a big role in pushing long-term rates lower. Plus, global sovereign bond yields are much lower than U.S. Treasury yields, making U.S. debt attractive to foreign buyers and pushing down domestic yields.

Weaker economic data was to be expected early this year. Trade tensions, the prolonged government shutdown, strong U.S. dollar, and fading of tax-cut benefits were all likely to weigh on first-quarter economic growth. Given that, it should come as no surprise that the government recently had to revise down its fourth-quarter, 2018, GDP growth reading to 2.2% from 2.6%. However, I’m starting to see stabilization in China and improvement in the U.S. housing market, which could offset the known economic negatives. The Atlanta Fed’s GDP forecast inched higher all March—and now forecasts first-quarter GDP growth of 1.7%, up from its 0.3% estimate at the start of March.

Other economic indicators contradict the bond market's signals: If a recession was imminent, I’d expect to see more confirmation in the data. Instead, I see an improving housing market (low rates help), a rebound in bank lending, a tight labor market, higher oil prices and well-behaved credit markets. All these point to a stable U.S. economic outlook.

I remain concerned that the Fed’s dovish pivot may have hurt consumer and business confidence. Lower rates aren’t a plus for stocks, as long as the yield curve is inverted. But I’m not seeing enough evidence yet to think that there will be a recession soon or a rate cut in September.

For investors, my advice is to ignore the alarmist headlines and stick with an asset allocation plan that fits with your risk tolerance and long-term goals.

Check out more Ideas from Morgan Stanley's thought leaders.

Original source: http://www.morganstanley.com/ideas/pushing-back-on-recession-fears