The divergence between credit spread and stock market has been widely noted in financial media. Often weakening credit spread signals loss of risk appetite and impending correction in stocks. But not always. Note area A in the figure above. Credit market signaled steep decline that did not materialize. Usually, the stock market and credit market decline simultaneously as in B above. And then we have C where credit spread preceded steep decline in stocks.
So is the current decline A, B, or C? B is ruled out by comparison (stocks and credit do not move in sync). It does not look like A either: the credit spread increase has been prolonged and sustained lasting over 6 months. And this happens in the very mature bull market and with the backdrop of deteriorating financial news.
This leaves C: Credit is signalling steep losses for stocks in near future (next few months).
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