I recall the spread getting over 700 basis points a couple times.
So we are still early in the game.
Market Watch: How to Ride the Widening Credit Spread
7/16/2007 3:28:16 PM
elliottwave.com*aid=3198*time=pm
Stock markets closed mixed today, Monday, July 16, 2007
by Alan Hall
When fear of risk falls to record low levels, the difference in yield between high-grade securities such as U.S. Treasury Bonds and low-grade corporate debt (junk bonds) narrows and even inverts. Concurrent with the narrowing of credit spreads, you'll typically see other signs of complacency -- an excellent example of which was the lax subprime lending environment.
Some are already weary of hearing about subprime credit woes. A recent Bloomberg article says Lehman Brothers Holdings, Inc. is convinced the "worst of the global credit market rout is over for now and investors should buy investment-grade debt."
The chart and commentary below (from Friday's Elliott Wave Short Term Update) depicts the widening of credit spreads, which banks and hedge funds helped along by buying credit-default swaps. These contracts allow investors to speculate on the ability of companies to repay debt; contract prices rise along with fear of default, and vice versa.
"Lehman recommends investors bet on credit quality improving by selling credit-default swaps." (Bloomberg) I hear notes of hope and pleading in that recommendation from the largest underwriter of mortgage bonds. Other banks are still wary that the U.S. subprime chaos will worsen and spread to other parts of the economy.
Investors can take advantage of the widening of the credit spread in several ways. Credit default swaps and simultaneous buy and sell options are two of the more complicated ways to go about it. But there are simpler ways for retail investors, like buying a Treasury Bond ETF, along with a new high-yield bear fund designed to rise as junk bonds go down. Subscribers can read more details of this strategy in a recent message board post.
"Now we see that junk-to-treasury credit spreads are on the rise, with spreads at the 10-year maturity breaking out above a down-sloping trendline in force for the past ten months. In fact, spreads are fast approaching the high for this year (which occurred on March 6 at 322 basis points), which should soon be surpassed. A Bloomberg news headline today says that 'Lehman, Bank of America and Barclays Say the Rout is Over,' referring to the 'global credit market rout.' They say 'buy' this 'stuff' while we say the 'rout' is just beginning. The market will ultimately determine whether these investment giants are sliding down EWI’s 'Slope of Hope' on the way to major market losses, or if this is a shrewd move. Our overall forecast for bonds remains intact: the spread between low-grade debt and high-grade debt will experience a record widening." |
