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#299: Corporate Debt Spreads

#299: Corporate Debt Spreads

Michael Berman, Ph.D.
May 21, 2025

2,530 active subscribers.

S2N Spotlight

I spent some time today building these charts with the data all available for free from the St. Louis Fed's excellent database, FRED.

As today it is in the spotlight, I will include a few more charts than what is necessary. There are 2 concepts you need to understand before getting to it, if you don’t already know this. There is the effective yield. That is the actual yield the different grades of corporate debt yield. The other is the option-adjusted spread (OAS). This represents the spread in the corporate debt grades’ yield relative to its comparable term government bond. So if the 10-year government bond is 5% and the AA corporate bond for the same duration is 7%, then the OAS is 200 bps. It is typical to quote spreads as basis points. So in this case it is 2%.

Effective Yield %

Option Adjusted Spread (OAS)

Now let us look at the price journey of the different grades of corporate bonds.

Now let us look at the yield curve for the ICE Bank of America US Corporate Index. This is a blend of different corporate grades into an index. The point to note here is the steepness of the curve.

ICE BofA US Corporate Index effective

In summary, the corporate debt market is trading at quite a hefty premium at the junk end of town. The other factor is the risk being priced in further out the curve for both inflation and solvency. I have said for ages that the job market will hold until there is a wave of bankruptcies, and then we will see spreads widen a lot more.

S2N Observations

I would say Japan is sending early shockwaves across the bond and FX market we should not be ignoring. I have provided a really long history chart, as many people are producing Rocketship visuals with recent data plots.

We are at levels last seen 20+ years ago. The problem for Japan is that their debt-to-GDP is a ball-breaking 260%. Ouch.

I really must get into the habit of dating on the chart any comments I make. I made this comment a few weeks ago, and I feel the same way, so I just placed a date on the chart. A strengthening yen means it goes down in this chart. Higher interest rates are likely to support the currency. A stronger currency is not good for Japan’s export market.

This week’s bond auction “failed” on the long end, so there could be a crisis coming. If Japan tries to print its way out of this, then the currency should weaken, and my call will be wrong. I don’t have a lot of conviction on this trade idea. I just know trouble is brewing, and expressing it through the yen is risky.

I came across this chart and found it very interesting. I think we will overshoot the median where we are now, but I don’t think that we are heading towards the Great Depression and leaving the Gold Standard era. I may eat my words; if I do, that will probably be all I can afford to eat.