This should be short. Remember that credit and equity volatility are strongly related.
I am dubious about conditions in the bank loan market because Collateralized Loan Obligations [CLOs] are hot now and there are many that want to take the highest level of risk there. I realize that I am usually early on credit issues, but there are many piling into CLOs, and willing to take the first loss in exchange for a high yield. Intermediate-term, this is not a good sign.
Note that corporations take 0n more debt when rates are low. They overestimate how much debt they can service, because if rates rise, they are not prepared for the effect on earnings per share, should the cost of the debt reprice.
It’s a different issue, but consider China with all of the bad loans its banks have made. They are facing another significant default, and the Chinese Government looks like it will let the default happen. That will not likely be true if the solvency of one of their banks is threatened, so keep aware as the risks unfold.
Finally, look at the peace and calm of low implied volatilities of the equity markets. It feels like 2006, when parties were willing to sell volatility with abandon because the central banks of our world had everything under control. Ah, remember that? Maybe it is time to buy volatility when it is cheap. Now here is my question to readers: aside from buying long Treasury bonds, what investments can you think of that benefit from rising implied volatility and credit spreads, aside from options and derivatives? Leave you answers in the comments or email me.
This will sound weird, but I am not as much worried about government bond rates rising, as I am with credit spreads rising. Again, remember, I am likely early here, so don’t go nuts applying my logic.