Credit Spreads: Recession Indicator or Market Correction?

Lawrence Gillum | Chief Fixed Income Strategist

Last Updated: March 17, 2025

Additional content provided by Kent Cullinane, Analyst, Research.

The recent downturn in equity markets has heightened fears of a looming recession among investors. Factors such as newly imposed tariffs by the new presidential administration, concerns about an economic slowdown, and persistent inflationary pressures have all contributed to the prevailing bearish sentiment. While equities have declined in recent weeks, credit spreads — the gap between corporate bond yields and U.S. Treasury bond yields — have widened. This widening is seen by some as a potential recession signal, reflecting greater risk aversion and unease about the economic outlook.

For instance, the ICE BofA U.S. High Yield Index Option Adjusted Spread (OAS), which measures credit spreads by comparing the option-adjusted spreads of bonds within a specific rating category to a spot U.S. Treasury curve, has climbed to 340 basis points (bps). This marks its highest level since September 2024, underscoring growing concerns among investors. Since President Donald Trump’s inauguration on January 21, spreads have widened by 80 bps.

The recent increase in credit spreads, while notable, remains relatively modest compared to historical averages and past recessions. At 340 bps, the current level is below the average of 528 bps and significantly lower than the peaks observed during the Tech Dot-Com Bubble, the Great Financial Crisis, and the Global Covid-19 Pandemic, where spreads exceeded 1,000 bps. This suggests that while there is heightened risk aversion, the market's stress level has not yet reached the extremes seen in previous economic downturns.

The Recent Uptick in Credit Spreads Appears Low Relative to History

Source: LPL Research, St. Louis Federal Reserve 03/13/25
Disclosures: Indexes are unmanaged and cannot be invested in directly.
Past performance is no guarantee of future results.

Credit spreads were notably at historical lows during President Trump's inauguration, standing at 259 bps — just 18 bps above the record low of 241 bps. This placed them in the bottom percentile historically. Even with the recent increase over the past few weeks, credit spreads remain in the bottom quintile, reflecting relatively tight conditions compared to historical norms.

While the move higher in spreads has frightened some investors, LPL Research’s Strategic and Tactical Asset Allocation Committee (STAAC) believes this move may be more of a correction scare than a recession scare. Key economic indicators, such as employment rates, consumer spending, and corporate earnings, have not shown the sharp declines that usually accompany a recession. This suggests that the widening spreads may reflect localized market adjustments and potential repricing of risk rather than systemic economic weakness.