Government debt has been under pressure, but company bonds are still holding their ground. Over the last month, yields climbed across fixed income as oil prices picked up and inflation worries resurfaced. Most key US Treasury benchmarks now trade north of 5%, with the five year crossing that mark for the first time since 2007.
At the same time, rate turbulence is heating up. The ICE BofA MOVE index, a yardstick for bond market volatility, jumped to roughly 105 this week, the most since March and well above its 10 year norm around 80. Bursts like this often show up before corporate borrowing spreads widen, as they did in early 2023 when both yields and the MOVE index rose. The pattern is not perfect though, and the stock market's fear gauge, the VIX, has not mirrored the move.
So far, solid profits and an economy that is still humming have supported corporate debt. Higher yields partly reflect that strength, and long term investors with future obligations, like pensions and annuity writers, tend to step in when yields back up. Robert Tipp, who oversees global bonds at PGIM and serves as chief investment strategist, said, "There's a lot of market experience with times where rates go up in a fairly controlled fashion because the economy is actually good, is doing well. And in those cases, the shocks tend to be fairly short lived and moderate."
That cushion has kept US investment grade spreads around 77 basis points on Thursday, about 2 basis points tighter than where they began the month. Still, the cushion looks thin. This week, Nathaniel Rosenbaum and fellow strategists at JPMorgan Chase & Co. estimated that, based on past links to bond and equity volatility, US high grade spreads are about 0.07 percentage point too tight.
At MassMutual, head of investment strategy Kelly Kowalski sharpened the message, saying corporate bonds are priced with little room for disappointment. "The longer yields are elevated and volatile, the more restrictive financial conditions become and the more they weigh on economic activity, corporate margins, and credit quality," she said.
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Some warning lights are blinking. The price of default protection on a basket of North American investment grade credits has ticked up. The CDX Investment Grade index was near 58 basis points on Friday on a roll adjusted basis, versus roughly 55 at August's end. "Yield oriented investors want higher yields, but they want stable, higher yields, and yields have been anything but stable," said Tom Murphy, head of investment grade credit at Columbia Threadneedle Investments.
Primary markets are feeling it too. This week, US issuers sold about $33 billion of bonds, falling short of dealer expectations near $40 billion. Several issuers had to offer about 6 basis points more to get deals done earlier in the week, books were thinner, and at least one borrower chose to step back on Wednesday.
After a busy August, when many rushed to borrow ahead of potential rate increases, treasurers have turned more selective as Treasury yields shot higher. At Wells Fargo, Maureen O'Connor, who leads the global high grade debt syndicate, said, "The conversation has become more nuanced recently. As 10 year Treasury yields are now comfortably north of 5%, the question has shifted to whether the bond market is oversold. This could be a catalyst for some opportunistic issuers to pause their funding plans."
Stress tends to show up unevenly. Strategists including Matthew Mish warned Wednesday that if yields stay elevated, refinancing can get tricky for the weakest links, especially in the lowest trading CCC tier, and in parts of private credit and software. Federated Hermes Ltd.'s senior credit portfolio manager, Nachu Chockalingam, put the challenge this way: companies that financed at 3% to 4% are now looking at rates close to double that, so managing energy costs, interest expense, liquidity, and balance sheets becomes critical.
Corporate credit has weathered the Treasury selloff so far, but the mix is getting trickier: higher and choppier rates, slightly pricier default insurance, softer new issue demand, and spreads that models say are a bit too tight. If yields remain high and jumpy, that can chip away at margins and credit quality over time. For everyday investors, the takeaway is simple to say if not always easy to do: keep an eye on credit quality, refinancing calendars, and sector exposure while this rate storm plays out.
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