With the April 2 imposition of significant new trade taxes looming, credit spreads have widened notably.
Anecdotal reports of falling corporate capital expenditures, rising borrowing costs and a modest increase in financial stress all are creating the conditions for a potential recession.
We recently increased our estimate of a recession over the next 12 months from 15% to 20%. Should spreads widen materially that would strongly imply slower growth and the rising risk of a credit crunch and recession.
Read more of RSM’s insights on the economy and the middle market.
Widening spreads illustrate a larger difference between corporate and government bonds, which imply greater credit risk and rising economic uncertainty.
Given that both high yield and investment grade spreads have increased recently, a possible increase in financial stress and potential losses for bondholders are possible.
In addition, wider spreads are often a harbinger of reduced access to capital, rising unemployment and declining corporate capital expenditures, which are all leading indicators of slower growth or the end of a business cycle.
Widening credit spreads are simultaneously both a driver and a symptom of economic slowdowns via the financial channel. Policymakers, investors and corporate decision makers will have to distinguish the signal from the noise when making portfolio allocation decisions on how many individuals to hire, how much to invest in equipment, software and intellectual property as well as how to hedge a potential economic downturn.
