Credit spreads, the bond market's fear gauge

What a credit spread is

When a company borrows by selling bonds, investors demand a higher yield than they would from the government, because the company might not pay them back. The difference between the two yields is the credit spread.

FinVolio tracks the spread on US high-yield bonds, sometimes called junk bonds: debt issued by companies with lower credit ratings. These are the borrowers most exposed if the economy turns, so their spread reacts first.

How to read it

A narrow spread means lenders are relaxed. They are willing to lend to riskier companies for only a little more than the government pays.

A widening spread means lenders want more compensation for the risk of default. That usually happens because they expect business conditions to get worse, or because money is being pulled out of riskier assets generally.

What it did in past crises

The spread rose above 20 percentage points at the end of 2008, during the global financial crisis, and to around 11 points in March 2020, when the pandemic shut economies. In calmer years it has mostly sat between about 2.5 and 5 points. The live chart shows where it sits now; the data provider publishes only the most recent three years, so those earlier peaks are not on it.

Why share investors watch it

Bond investors are paid only to get their money back, so they focus on what could go wrong. Share investors are paid for growth, so they can stay optimistic for longer. When the two disagree, the bond market has often been right first, and a spread that widens while shares keep rising has been an early warning more than once.

It is not a timing signal on its own. Spreads can stay narrow for years, and they can widen briefly on a shock that passes. It is most useful as a check on whether the optimism in share prices is shared by the people lending to the same companies.