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Spread update




With all the concerns about the U.S. economy being in a soft patch (and possibly entering a double-dip recession), and Europe being plagued by imminent PIGS defaults, credit spreads have understandably widened of late. But as the chart above shows, this widening has been rather tame when viewed from an historical perspective. Furthermore, the widening of spreads has occurred mainly as a result of declining Treasury yields; yields on high-yield debt haven't fallen as much as Treasury yields have. (The widely-followed HYG ETF is down only about 3% from its recent highs.) I note, moreover, that spreads remain quite elevated relative to their lows since 1997. Investment grade spreads today are almost as wide as they were during the 2001 recession, and high-yield spreads are more than twice as high today as they were in mid-2007.

The best explanation for why spreads have only widened marginally, despite the long list of concerns which currently weigh on the market, is that the market has been priced to a lot of bad news for some time now. Put another way, valuations in the corporate debt market have been and continue to be depressed.

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