Corporate Credit Spreads Nearing Multiyear Lows
Quantitative tightening to begin next month.
Corporate credit spreads continued to tighten last week and are rapidly approaching multiyear lows. The average spread of the Morningstar Corporate Bond Index (our proxy for the investment-grade bond market) tightened 3 basis points to +108 last week and the average credit spread of the BofA Merrill Lynch High Yield Master Index tightened 9 basis points to +364. Most recently, corporate credit spreads had bottomed out at +106 and +355, respectively, at the end of July. Over the past few years, the tightest that credit spreads registered was in mid-2014, when they reached +101 and +335, respectively. Credit spreads have only ever been tighter in the runup to the 2008-09 credit crisis.
In conjunction with credit spreads nearing their lows, volatility has also declined back toward its historical lows. At the end of the day Friday, the CBOE Volatility Index registered 9.6, one of the lowest readings since its inception. Market volatility and corporate credit spreads have been highly correlated over time. Based on the average spread of the Morningstar Corporate Bond Index since 1990, the VIX and investment-grade credit spreads have an R-squared of approximately 85%.