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Markets are still pessimistic

These two charts record the most dramatic rally in the corporate bond market in modern history, and it's far from being over. Earlier this year, when spreads were at their peak, the market was effectively forecasting that a deep depression and a global deflation would wipe out a huge percentage of the world's companies. Now, as spreads have come back down to the worst levels we saw during the 2001 recession and the subsequent corporate credit crisis (second chart), the market is effectively saying that what the future holds in store for us is a garden-variety, but still rather nasty recession.

My takeaway from this is that the rally we have seen in corporate bonds and equities this year has been more about the market becoming less fearful of the future than it has been about a market that has turned optimistic. Stocks and bonds are still priced to some fearsome assumptions, and this is hardly the stuff of an overbought or overextended market.

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