U.S. and European investment banks are reportedly saddled with nearly $500 billion in leveraged loans that they are unable to peddle to investors, due to the credit market crunch that appears to be going global.
The trouble is, these investment banks had already committed capital to leveraged buyouts and other deals, when credit markets began to seize up, and investors quickly stepped away from the market to reduce risk.
While U.S. Treasury bonds have rallied, pushing the yield on the 10-year note down to
4.7%, yields on lower-rated junk bonds began to surge higher last week. In fact, the “spread” between these two very different types of bonds has jump to above 4% from around 3% about a week ago.
It’s worth noting however, that this spread is still at very low by historical standards, as can be seen in the chart above. In fact, throughout most of the 1990’s the high-yield spread was at current levels or even higher most of the time, and financial markets performed pretty well.
Bottom line: global financial markets continue to enjoy an environment of strong economic expansion, slowing but still robust profit growth, and low default rates among high-yield borrowers. This suggests that, absent any more credit-market "incidents", the contagion may soon be contained.
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