From the Desk of Ian Culley
If bond markets aren’t stressing, why should we be?
They’re the largest markets in the world. That’s why we constantly monitor credit spreads for signs of structural weakness and elevated risk.
But, as of now, we’re not seeing the slightest hint of impending catastrophe.
Despite the doom-and-gloom headlines popping up in your inbox and financial media talking heads spinning an imminent recession…
Credit spreads around the world are sending a clear message: "Relax."
Check out the overlay chart of option-adjusted high-yield credit spreads:
They’re all contracting to levels from last summer. Even the riskiest CCC-rated spread is reverting lower.
This is the exact opposite of what we would expect if the world was coming to an end and investors were running for the exits.
Instead, market participants are reaching for additional risk despite the tempting yields offered by risk-free Treasuries.
It could change, of course. But this isn’t bear market behavior.
"But Ian, it’s different this time. Risks exist in the sovereign debt market, not in corporate debt!"
OK, let’s look at European sovereign spreads.
Here are the spreads between 10-year French, Italian, Spanish, and Portuguese yields versus the German yield:
They’re all turning lower, too, with the Italian-German spread nearing its lows from last fall.
Again, this could change. But all we have is right now and all the data we can get our hands on preceding this moment.
Based on the evidence, it appears the sovereign debt crisis has been put on hold.
And when we consider the emerging markets, fuhgeddaboudit!
Even emerging-market high-yield credit spreads are turning lower! Check out the chart of the option-adjusted emerging-market high-yield credit spreads below:
We’re not talking about the summer or fall lows from last year. Emerging-market high-yield credit spreads are revisiting levels not seen since September 2021.
So, where’s the stress? I don’t see it.
When I take a step back, turn off the noise, and focus on these spreads, I don’t hear alarm bells going off.
Instead, I hear the bond market whisper, "Take it easy... follow trends, not headlines..."
I can even hear, "Buy high, sell higher... price pays..."
Perhaps it’s just me. Regardless, it’s clear the bond market is playing it cool as a cucumber.
That’s great for bonds and risk assets worldwide.
Stay tuned!
Countdown to FOMC
Following the recent double-hike, the market is pricing in a single-hike at the February meeting.
Here are the target rate probabilities based on fed funds futures: 
Click the table to enlarge the view.
This data is from the CME FedWatch Tool as of January 12, 2023.
Thanks for reading. And please let us know what you think.
As always, be sure to download this week’s Bond Report!
