Stable Bond Spreads and Robust Issuance Make a 50 bps Rate Cut in September Unlikely

Summary:

• Corporate bond markets indicate that expectations for a 50 basis points rate cut by the Federal Reserve in September are unrealistic.
• High-yield (HY) and investment-grade (IG) bond spreads remain historically tight, with current spreads close to long-term averages.
• Stock market volatility has surged, but bond market volatility remains well below the spikes observed during recent rate hikes, indicating relative stability.
• The robust U.S. primary bond market suggests recession fears may be overstated. Investment-grade and high-yield bond issuance are at high levels, meeting strong demand.

Bond Markets Remain Resilient Amid Recent Market Selloff.

The recent selloff doesn't justify the market's expectation of a 50 bps rate cut by the Fed in September.

Credit spreads for both high-yield (HY) and investment-grade (IG) corporate bonds remain tight by historical standards. Over the past 10 years, the CDX IG 5-year spread has averaged around 66 bps, currently trading at 60 bps. Similarly, the CDX HY 5-year spread has averaged 380 bps, which aligns with current pricing.

While stock market volatility has surged to levels reminiscent of the COVID-19 pandemic, the MOVE Index, which measures implied volatility in the U.S. Treasury markets, has also risen but remains within the range observed throughout 2022 and 2023 during the Federal Reserve's rate hikes. This suggests that while equity markets are experiencing heightened uncertainty, the bond market's volatility expectations are more tempered, reflecting a degree of stability amid economic deterioration fears.

The Fed needs to witness more significant economic distress before considering a more dovish stance.