Recent prior notes have focused in on the forward Fed reaction function to the disinflationary impulse of late 2023 and the potential path of interest rates.
The focus on the evolution of policy and rates should not remove our attention from market dynamics.
The first area to focus on is corporate bond spreads. The investment grade space continues to outperform, with spreads at their lows since peaking in October 2022.
The area of concern is on the high yield side, especially with the lower segment of the index, the CCC space.
After bottoming at 851 basis points on December 29th, 2023, those spreads are 89bps higher as of January 11th. The broader high yield index has also moved up by 23bps in the same time frame.
To be clear, high yield tends to be volatile, more so on the lower end of the credit spectrum. But this twitchiness can also be an early indicator of underlying macroeconomic stresses that are building up.
For now, this is being scored as a benign development. However, if these trends persist and crossover to the investment grade space, then it will raise a yellow flag.
Downstream, earnings estimates continue to get cut, as they have since the start of the Q4 2023.