Gavekal Capital: Junk Bonds Not Confirming S&P 500 Record Highs

Thursday, November 20, 2014

Junk Bonds Not Confirming S&P 500 Record Highs

Since the "666" intraday low, high yield spreads and equity prices have basically moved in lockstep together. As equity prices moved higher, the spread between junk bonds and 10-year treasuries narrowed. As the chart below illustrates, this relationship started to diverge during the summer.  On June 24th, the spread between between high yield bonds and 10-year treasuries narrowed to 222 basis points. Since that day, the spread has widened by 158 basis points to 380 basis as of yesterday. On October 15th, the spread reached 431 basis points which was the widest spread since late 2012. Perhaps most importantly, however, junk spreads have widened back out during November even as the S&P 500 has pushed higher. We are now in a situation where either this relationship has come unhinged or we would need a sharp rebound in credit or correction in equity prices in order to reestablish the status quo from the past 5+ years. We will definitely be keeping our eye on this going forward.