In a potentially positive sign for the U.S. economy, the widely-followed gauge of impending recessions in the bond market reached its least negative level in two months on Friday. The 2s10s spread, which measures the difference between the yields on 2-year and 10-year Treasury notes, briefly touched minus 18.8 basis points, the least negative level since November 1st.

Typically, an upward sloping Treasury yield curve is preferred, with the 10-year yield trading higher than its 2-year counterpart. However, when the curve is inverted, as it is currently, with the spread between the two rates in negative territory, it signals expectations for potential economic downturn. Remarkably, this time around, experts attribute the un-inverting curve and the possibility of rate cuts by the Federal Reserve to disinflation rather than anticipated recession.

Lawrence Gillum, the chief fixed-income strategist for broker-dealer for LPL Financial, explains that the disinversion of the Treasury curve is more related to the "immaculate disinflation story" unfolding and inflation returning to the desired 2% target earlier than expected. Gillum opines that the narrative of disinversion leading to recession due to rate cuts is not playing out. Instead, the idea is that the Fed will reduce rates regardless of a recession as inflation subsides.

Interestingly, the disinversion of the Treasury curve on Friday occurred despite geopolitical events in the Middle East, which caused oil prices to surge and potentially reignite inflation fears. Treasury yields across the board fell, driven by rally trades in the shorter-term part of the market. This led to a greater decline in the 2-year yield compared to the 10-year yield.

The bond market's mood began to sour in the first half of 2023 due to concerns over the fallout from the Federal Reserve's interest rate-hike campaign. However, the current market sentiment seems to indicate that a U.S. recession is not on the horizon. Fed funds futures traders, for instance, are not anticipating drastic rate cuts, with a 33% chance of six quarter-point reductions by December and a 37.8% likelihood of seven cuts.

While uncertainty remains, the temporary relief from negative readings in the bond market indicator provides a glimmer of hope for economic stability. Investors will keenly observe future developments to discern whether disinflation persists and how the Federal Reserve will respond to maintain economic growth.