The chart above compares 2-yr swap spreads with the spreads on high-yield corporate debt. Swap spreads have often been good leading indicators of the health of the financial markets and the economy. In "normal" times they trade around 20 bps or so. Prior to the Great Recession they rose to "troubled" levels, and were a good predictor of tougher times to come; they then went on to be the first to signal the end of the recession well in advance. The recent rise in swap spreads has merely taken them from unusually low levels to "normal" levels. As such, this suggests that the more than 200 bps rise in junk bond spreads (the dividend yield on HYG has risen to just under 6% in the process) has more to do with fears that lower oil prices will trigger higher default rates among corporate issuers than it does with any fundamental deterioration in the broader economy. Yes, many energy-related issuers with heavy debt burdens are facing difficult times, but they are a relatively small minority in the greater scheme of things. Businesses that consume a lot of energy are doing very well (UAL, for example, is up some 60% since June).
Yields on high-yield debt are approaching 7%, and at that level investors are being offered a substantial yield pickup over Treasury debt, and a decent cushion against further declines in price. It's the bond market's version of "walls of worry."
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