The Importance of the Yield Curve

Hey GRIT VIPs! 🚀 Do you remember why we measure the Yield Curve?

Before exploring the yield curve, it’s essential to understand what "yield" means. In stocks, yield usually refers to how much a company pays in dividends relative to its stock price.

But for the yield curve, we're talking about bond yield. This tells you the interest a bond pays based on its price, showing how much return you get on your investment.

For example, a bond paying $50 yearly with a price of $1000 has a 5% yield. If the bond’s price drops to $950, the yield rises to 5.3% because you’re getting the same $50 but for a cheaper price. This change in price affects how attractive the bond is to buyers.

The yield curve uses U.S. Treasury bonds issued by the U.S. government to show how yields change with bonds of different maturities. Plotting these yields helps understand economic conditions and expectations.

Normal Yield Curve 

When the yield curve is positive, investors expect the economy to grow, leading to higher interest rates. Higher rates make long-term bonds riskier, so these bonds offer higher yields as a reward for this risk.

For example, after the 2008 financial crisis, expectations of growth and higher rates made the yield curve slope upwards, meaning long-term bonds paid more. This is because holding onto money for longer is riskier due to potential economic changes.

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