Signs of Stress in Credit Markets

Like passing a major accident on the highway, investors are fixated on the stock market. We urge you to pay at least equal attention to credit markets. QE (Fed purchases of assets) had its most important impact on credit markets...slashing interest rates, expanding credit, lowering credit standards, weakening covenants and encouraging excessive risk-taking in a reach for yield. We expect the most important impact of QT, the Fed sale of assets, will therefore also be seen in credit markets.

Published
December 21, 2018

Signs of Stress in Credit Markets  

Like passing a major accident on the highway, investors are fixated on the stock market. We urge you to pay at least equal attention to credit markets. QE (Fed purchases of assets) had its most important impact on credit markets...slashing interest rates, expanding credit, lowering credit standards, weakening covenants and encouraging excessive risk-taking in a reach for yield. We expect the most important impact of QT, the Fed sale of assets, will therefore also be seen in credit markets.

A falling stock price hurts. A credit default event is far less forgiving.

Credit spreads are blowing out...a clear sign of stress in credit markets and evidence of growing investor risk-aversion. Since early October, when the stock market began its descent, risk-free Treasury debt has greatly outperformed Investment Grade Corporate debt (see below).

And since early November, Junk debt has sharply underperformed Investment Grade Corporate debt (see below).

Meanwhile, banks remain the key players in the financial system and their shares have hugely underperformed the S&P500...another signal of stress (see below).

Or consider the recent performance of the largest leverage loan ETF, where redemptions are proceeding at a gallup.

What does this mean? We see a coming credit contraction which will drive up the default rate of weak companies unable to refinance their debt. We see investors increasingly avoiding risk and looking for greater safety. We see increasing demand for gold and gold stocks.

Related Posts

No items found.