By Matt Tracy

(Reuters) – U.S. junk bond spreads over yields on risk-free Treasuries widened further on Monday, after ending last week with the biggest daily points surge since March 2023, indicating financial markets see much more risk with stocks sharply lower as investors rushed to the safety of U.S. government debt.

The ICE/BofA U.S. high yield index option adjusted spread surged 37 basis points to 372 bp as of late Friday. The ICE/Bof A U.S. Investment Grade Corporate Bond Index spread posted its biggest jump since May 2023 and closed at 106 bp.

Investors have increasingly turned to the safe haven of Treasuries since last week’s employment reports showed job growth slowed more than expected in July and the unemployment rate increased to 4.3% from 4.1% in June.

The market sell-off has erased a credit market rally through most of the year, BMO said in a Monday note. But BMO and others said they viewed the spread widening as a correction rather than an early sign of a recession.

“We’re seeing a pronounced move wider in IG bond market spreads after being on very stable footing for the entire year,” said Blair Shwedo, head of fixed income sales and trading at U.S. Bank. “However, this spread move is not materializing in all-in corporate yields.”

Mounting fears of recession have drawn calls for an emergency rate cut from the Federal Reserve. But bond market participants pointed to data on Monday that could quash these fears. For instance, the U.S. services sector rebounded from a four-year low in July while the employment rate in that sector increased for the first time in six months.

Some bond investors seemed less worried about the economic data itself than about the nagging stock market sell-off.

“Is this going to be an example of where the equity market impacts the economy through a little wealth destruction?” said Jack McIntyre, global fixed income portfolio manager at Brandywine Global, an asset manager.

Analysts were mixed as to how far corporate bond spreads will widen before topping out. JPMorgan analysts, for example, now expect high-yield bond spreads to widen to 500 bp, rising 120 bp from its previous 380 bp forecast.

Demand for new corporate bonds ticked down on Friday following the sell-off, resulting in a spike in concessions offered by issuers going to market. This could dissuade some borrowers from tapping the market, market participants noted, dampening August issuance volume in the near-term.

“There are some people sitting on the sidelines now who think the economy is going to shift to a recession pretty soon,” said Jeremy Burton, high-yield bond and leveraged loan portfolio manager at asset manager PineBridge Investments.

“Some of the cuspier…issuance is going to slow down in the near-term,” he added.

Burton and others were optimistic that corporate bond market activity will pick up once spreads stabilize given attractive all-in yields.

“Yes, spreads are wider, but if you’re an issuer this is the best deal in two years,” said U.S. Bank’s Shwedo.

(Reporting by Matt Tracy and Alden Bentley; Editing by David Gregorio)

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