What is a Yield Curve?

The term Yield Curve refers to a snapshot of the market interest rates of bonds of different terms at a particular date. The yield curve graphs the interest rates for different terms of the same security bond. The classical yield curve will show low interest rates for short bonds rising to higher interest rates for long bonds. It is usual for investors to demand a higher return on their investment in exchange for locking their money away for a longer period of time.

An Inverse Yield Curve occurs when short bonds have a higher interest rate than the equivalent long bonds. This can occur because of government inspired intervention in the finance market to raise interest rates to dampen down inflationary expectations in the ensuing, say, 18 months. Such intervention will ripple through the entire market whether a particular bond is government backed or not, to maintain risk/return relativity. Inverse Yield Curves via high short-term bond rates are often tied to international exchange rate movements. If a global investor senses that short interest rates may rise in Australia, they may buy as many Australian dollars as they can, to take advantage of the high interest they can earn. Conversely lower interest rates can lead to a low Australian dollar (i.e. Your Aussie dollar will buy less overseas dollars when you try to spend it overseas).

Long bonds themselves are less volatile and generally reflect overseas market trends.