We’ll have plenty of economic news to cover this week. A bunch of housing data is coming out in the next few days, along with retail sales, consumer spending and inflation data. But perhaps the biggest news of the week will come from the Federal Reserve.
Fed leadership will meet Tuesday and Wednesday to decide what to do about interest rates. Markets are betting on another quarter-point rate cut.
Even though the Fed’s been cutting rates, a very different phenomenon has been going on in the bond market. Over the last few months, yields on 10-year government bonds have risen. Corporate bond yields have been going up too.
Bond investors like to compare government and corporate bond yields. The difference, in bond market-speak, is called a spread.
For instance, if a 10-year government bond is offering 4% but a 10-year corporate bond is offering 5? “The difference between those two is 1%. That would be your credit spread for that one bond,” said Guy LeBas, chief fixed income strategist at Janney Montgomery Scott.
He said spreads exist because corporate bonds typically offer more interest, because they’re seen as riskier. After all, companies don’t have Treasury Departments that can just print money to pay off debt.
“They can try to earn more, but things go wrong from time to time. And so by nature, it has a bit more risk than the government,” LeBas said.
But in the last few months, corporate bond yields have been rising more slowly than government bond yields — the spreads have narrowed. LeBas said that’s a sign companies aren’t looking so risky.
Profits have generally been solid this year and many companies expect that to continue.
Winnie Cisar, global head of strategy at the research company CreditSights, said investors also expect that the new Donald Trump administration will help companies jack up profits even more.
“Investors are looking at the prospects of a looser regulatory environment, the potential for an extension for corporate tax breaks,” she said.
Meanwhile, government bond yields have been rising at a faster clip because demand has slowed down. Cisar said that’s a sign the economy is strong, which gives investors a reason to take on more risk.
“When investors are expecting that the economy is going to fare well, they’re probably not buying Treasuries,” she said.
In other words, the narrowing spread between government and corporate bond yields is a sign that investors are feeling pretty optimistic.
