Credit Spreads

They aren't too bad

Side note to start the day: I’ve been really proud of myself this year for publishing my newsletter at 6AM each day without a single miss. Well, last night I fell asleep so early I didn’t even get a chance to write like I had planned before passing out, so you get the late 9AM edition today : )

Now, let’s talk about credit spreads.

People get hyper focused on the stock market but, honestly, the market is a small part of the overall financial engine of the world economy. It is definitely the most marketable though because many everyday people have money in the market and it stinks to see your portfolio go down, so that is where most of the attention goes when things go bad.

However, it is critical to separate the stock market from other key components of the system. Reason being, the market can do poorly while the rest of the system is just fine. We are currently in one of those situations:

While the market has been awful this year, credit spreads, which are one of the key indicators of stress in the financial system, are elevated but no where near levels seen in 2008, 2020, or, for that matter, 2016 and many other years!

This means that, if there were to be a round of more extreme stress on the financial system as indicated by credit spreads, the market could go down further. Much further. On the positive side, we could also see conditions ease in the stock market and ease with credit spreads.

Ultimately, this indicator is crucial for us because it provides another look at the system as a whole. While not perfectly correlated with the market, we can be more confident a bottom is in for stocks if we see credit spreads start to fall again.

We haven’t exactly seen that yet so we don’t know if the pain is over and we will never know the exact bottom of utmost pain! Only in hindsight will we get it. But, the speed at which we can ascertain that hindsight will be faster than others if we use a wider range of metrics beyond just looking at a market index like the S&P 500.