Risk Appetite Drives Spreads to Historic Lows
Risk appetite in the U.S. corporate bond market has intensified, driving borrowing costs for speculative-grade issuers to some of the tightest levels seen in the post-pandemic era. The ICE BofA US High Yield Index Option-Adjusted Spread (OAS) has compressed to 288 basis points (bps) as of December 11, down from 2.91% earlier in the week. This level is significantly below the historical average, signaling a robust ‘risk-on’ environment where investors are aggressively chasing yield despite macroeconomic uncertainties.
When spreads break below the psychological 300bps threshold, it indicates that public markets are effectively priced for perfection. Investors are currently demanding very little compensation for credit risk, betting on a soft landing and sustained corporate earnings growth. This compression is evident across the quality spectrum, with the BB Index OAS trading at a razor-thin 1.76% and the Single-B Index at 2.97%. Even the riskiest tier, CCC & Lower, has seen spreads settle at 8.77%, reflecting a broad-based willingness to move down the credit stack to generate returns.
The Public Market Paradox: Cheap Capital, Loose Terms
For borrowers, the current environment offers an attractive window to refinance debt at favorable rates. The tightness in spreads suggests that public capital markets are wide open, with issuers able to command aggressive pricing. However, historically tight spreads often coincide with a deterioration in covenant quality, as lenders loosen protections to win allocations in oversubscribed order books.
The Bond Capital Perspective: Discipline Over Exuberance
While the rally in public credit markets validates the resilience of the U.S. economy, Bond Capital exercises caution in overheated environments. When the market prices risk strictly for perfection, the margin for error disappears. We define this as a seller’s market: excellent for issuers seeking the lowest possible rate, but potentially perilous for lenders who sacrifice structural protections for volume.
As public markets chase tight spreads, Bond Capital maintains strict credit discipline. We do not loosen covenants to compete with the exuberance of public flows. Instead, we focus on providing certainty of execution and bespoke structural solutions that standardized public markets cannot offer. For investors, our approach provides a defensive hedge against the volatility that inevitably returns when priced-for-perfection markets face their first shock.
