A metric from the New York Fed revealed that the US investment-grade bond market faced its worst dysfunction in nearly three years during July.
The Corporate Bond Market Distress Index, introduced by the New York Fed in 2022, measures strain from 0 to 1, where 1 signifies maximum pressure. For investment-grade bonds, the sub-index rose to 0.3 at the end of July, up from 0.25 in late June. According to the New York Fed, the investment-grade sub-index stood near the 68th percentile of its historical range, indicating that market conditions were tighter than typical.
On July 17, the sub-index hit a peak of 0.33, the highest level since November 2023.
The CMDI, developed by the New York Fed, combines several market indicators including new issue pricing, secondary market liquidity, and credit spreads to gauge stress. During the 2008 financial crisis, the index spiked above 0.8, while in March 2020 it reached 0.7. The current reading of 0.33 for investment-grade bonds, while elevated, remains well below those crisis levels, suggesting the stress is manageable and sector-specific.
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The New York Fed said in a July 29 commentary accompanying its monthly release, "Underlying the market-level overall stability, the CMDI for the investment-grade sector deteriorated."
A surge in high-grade bond offerings, totaling roughly $132 billion in July - the highest monthly volume on record - was partly driven by Big Tech firms seeking capital for artificial intelligence projects, coinciding with the rise in the sub-index.
Amazon.com Inc. issued $25 billion in July, a time when technology stocks were broadly declining, leading the firm to provide higher yields compared to its earlier bond sales in order to attract investors. Similarly, a large transaction linked to artificial intelligence - a BlackRock Inc. offering this week that finances a Meta Platforms Inc. data center - came with yields notably above those seen when the AI-driven borrowing spree began in 2023.
The premium that investors require to hold investment-grade corporate bonds instead of Treasuries - known as credit spreads - has increased in recent weeks, reaching 80 basis points, up from 74 basis points at the start of July.
Its recent climb to 0.33 indicates that liquidity has tightened and investors are demanding higher compensation for taking on credit risk - a notable development in a sector typically seen as safe.
The index provides a view of current market health compared to past episodes of disruption, including the 2008-2009 financial crisis and the March 2020 pandemic turmoil. While the gauge uses weekly data, it is released once per month, specifically on the final Wednesday.
The overall CMDI was last at 0.15, falling from 0.16 in late June, and the broader corporate-bond market is still functioning fine. The stress is concentrated in the high-grade corner, driven by a specific cause - AI spending - rather than a broader credit meltdown.
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