Tuesday, December 30, 2008

Swap spreads correctly forecast improvement in corporate bonds

I've been writing for months about how the decline in swap spreads was a leading indicator of improvement in other areas of the market. Lower swap spreads are a good indicator that liquidity and confidence are returning to the fixed-income market, and this is a necessary step for improvement in other markets.

This chart shows that the concept has finally caught on. Swap spreads started declining in October, but now all spreads are declining, and yields are declining as well. Yields on high-yield (junk) bonds have dropped significantly in the past few weeks, producing handsome returns for holders of the bonds. Investment grade bond yields have also declined impressively.

This is, I think, a good example of the kind of improvement we can expect to see in the equity market before too long. VERY bullish.

Full disclosure: I am long high yield bonds and stocks (HYG and IVV) at the time of this writing.


The Lab-Rat said...

Happy New Year Scott. Big fan of the blog, rational voices of reason are increasingly hard to come by. Hugely encouraging price action in US high yield over past couple of weeks, saw HW00 (ML index) over 100 tighter now month to date. Lets hope it continues into the New Year.

Scott Grannis said...

Thanks, and may it be a good one for you too. The HY action is indeed very exciting. We could be in for some wild action soon.