Consistently at the forefront of credit management. Changes in the spread indicate that perceptions of the risk of a specific issuer has changed or that perceptions of general market conditions have changed. Or, if markets become more negative and risk-averse, spreads in general tend to widen. Similarly, if sentiment towards an issuer or a market improves, the relevant spreads would decrease. Related insights More insights. Elizabeth Henderson, CFA. The Investment Grade IG Corporate bond market per Bloomberg Barclays Index generated modest returns in the first quarter of , with an excess return versus a duration neutral Treasury of 1.
On a total return basis, the IG market had one of its worst quarters due to rising Treasury yields, generating a return of The option adjusted spread OAS of the market tightened 5 bps in the first quarter, with virtualy all the outperformance coming from the long end, and BBBs outperformed higher quality. Spreads tightened despite heavier than expected new issuance in the first quarter and increased rate volatility.
The outperformance in the long end and BBBs is likely being driven by yield oriented investors, who are awash in liquidity, facing a lackluster opportunity set with low global yields and falling default risk. The credit curve has flattened to a cyclical low Exhibit 2 , with short end spreads widening and long end spreads tightening this year.
Until we see higher yields away from Corporate Bonds or the Fed signals it will begin tapering asset purchases, we expect this trend to continue, albeit at much slower pace. Despite rising inflation expectations, the Federal Reserve is expected to remain accommodative at least through As you can see in Exhibit 3, this basis can remain quite low for some time until there is a fundamental threat to the market. Since we are early in the economic recovery with unprecedented simultaneous monetary and fiscal support, we view the risk of a fundamental threat as very low.
Therefore, until we are later in the cycle or see an emerging threat, we will continue to advocate an overweight BBB position. As we had expected, OAS volatility has been minimal this year, with a range of 12 basis points bps. After tax reform was passed at the end of , the OAS moved to its 5-year tights, to 84 bps as investors became more optimistic about growth and the increased incentive for corporations to reduce debt Bloomberg Barclays Corporate Index.
Depending on the magnitude of the change, spreads could soften if growth prospects dim. It was in when debt leverage fell as companies waited for more information related to taxes and policy.
There are many differences today vs. Maley does not see a repeat of when credit spreads were far higher than their current levels nor does he foresee levels seen during the financial crisis in However, widening credit spreads still act as a leading indicator for asset prices and are a signal worthy of attention.
Boris Schlossberg , managing director of FX strategy at BK Asset Management, agrees: the signs are flashing yellow, not red, at the moment. All of those factors should be a big warning sign to investors. A compressing yield spread and flatter yield curve usually suggest lower risk appetite among investors as they gravitate toward safe haven assets such as shorter-term bonds.
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