What to Watch for Signs of Broader Credit Market Stress

Jamie Dimon, chief executive officer of JPMorgan Chase (MARKETVIEW1020)

This commentary was issued recently by money managers, research firms, and market newsletter writers and has been edited by Barron’s.

Of Cockroaches and Credit

Sevens Report
Kinsale Trading
Oct. 16: Famed JPMorgan Chase CEO Jamie Dimon issued a warning of sorts about potential stress in some credit markets when he stated, “When you see one cockroach, there’s probably more” in regard to the bankruptcy of subprime auto lender Tricolor Holdings. That warning, along with the collapse of auto-parts manufacturer First Brands, is causing some investors to worry about contagion in the credit markets….

What would signal a larger problem? Just because Tricolor and First Brands appear to be, for now, isolated incidents of potential fraud, we can’t totally dismiss the reality that there may be stress in the lower-income portion of the economy that could trickle “up” and impact credit markets, stocks, and the economy. But beyond watching for more corporate bankruptcies, a macroeconomic indicator to watch is the Baa-over-Treasuries credit spread. Baa [rated] bonds are high-yield bonds, and if we start to see hints of systemic stress in the credit markets, junk bonds will get sold hard and the Baa-over-Treasuries spread will rise, sharply.

2.00% in the Baa-over-Treasuries spread is a wake-up call on economic/credit concerns, so that’s a level to watch.

Currently, the Baa-over-Treasuries spread is at 1.72%. If that moves steadily higher, it would be a signal that, perhaps, Tricolor and First Brands aren’t isolated. We’ll continue to watch this, and if this metric gets close to 2.00%, we will let you know because that will increase downside risks in stocks.

Tom Essaye

Housing Market Blues

Special Commentary
Wells Fargo
Oct. 16: Elevated mortgage rates continue to exert significant pressure on the housing market. Over the past several months, existing-home sales have essentially moved sideways, preserving the lackluster trend that began in 2023. In addition to financing costs, prohibitive home prices and scarce supply remain discouraging to interested buyers.

Encouragingly, recent progress has been made on the affordability front. Mortgage rates have dropped by 45 basis points [0.45 of a percentage point] since mid-July, most recently hitting 6.3% in the first week of October. The drop looks owed to the FOMC’s quarter-percentage-point cut in the federal-funds rate in September, solidifying expectations for additional reductions. A more moderate trend in home-price appreciation is also allowing for a marginal improvement in affordability conditions. Since February, home prices have declined on a month-to-month basis.

So, will lower interest rates inject more energy into the residential sector? A lower fed-funds rate should strengthen the macroeconomic backdrop and add support to housing demand. In our view, however, mortgage rates are likely to remain within a range of 6.2%-6.4% over the next few years as fiscal pressures and higher inflation expectations prevent a material decline in long-term rates. Although affordability conditions may improve, high mortgage rates and elevated home prices will likely continue to limit activity and prevent a full-fledged recovery.

Charlie Dougherty, Jackie Benson, Ali Hajibeigi

CAPE Ratio Sends a Warning

Chart in Focus
McClellan Financial Publications
Oct. 15: The U.S. stock market is overvalued by a long list of measures, and that hasn’t mattered yet. That is the key point about valuation: It does matter, but not necessarily on anyone’s schedule. Valuation is a “condition,” not a “signal.”

Years ago, Robert Shiller developed his cyclically adjusted P/E, or CAPE, ratio for the S&P 500…. The CAPE right now is really far up there [approaching 40]. Only the peak of the internet bubble in early 2000 brought a higher reading, and it is above the highs of 1929 and 2021.

So, if CAPE isn’t useful as a timing tool, what use is it? The answer lies in asking what happens in the years after you see a high reading like this. The big peaks in CAPE in 1929 and 2000 led to instances of negative 10-year returns. So did the lesser CAPE peak in 1965. The correlation isn’t perfect, so you can’t say that a CAPE reading of X will lead to some specific value for the 10-year forward return. But the correlation is pretty obvious.

This means that the potential for a buy-and-hold approach working well over the next 10 years is going to be pretty low. Buy-and-hold investing has worked under the right conditions, when the market was coming off a very low CAPE reading. The period following the 2009 bottom was a great example (the Fed helped with mountains of quantitative easing). From 2000 to 2009, one needed to be a good market timer to have an edge. We appear to be in for a similar period during the next decade when market timing will be essential again.

Tom McClellan

IMF Economic Outlook

The following forecast was issued by the International Monetary Fund in its World Economic Outlook, a quar-terly report, Oct. 14: The global economy is adjusting to a landscape reshaped by new policy measures. Some extremes of higher tariffs were tempered, thanks to subsequent deals and resets. But the overall environment remains volatile, and temporary factors that supported activity in the first half of 2025—such as front-loading—are fading.

As a result, global growth projections in the latest World Economic Outlook are revised upward relative to the April 2025 WEO but continue to mark a downward revision relative to the pre-policy-shift forecasts. Global growth is projected to slow from 3.3 percent in 2024 to 3.2 percent in 2025 and 3.1 percent in 2026, with advanced economies growing around 1.5 percent and emerging market and developing economies just above 4 percent. Inflation is projected to continue to decline globally, though with variation across countries: above target in the United States—with risks tilted to the upside—and subdued elsewhere.

Risks are tilted to the downside. Prolonged uncertainty, more protectionism, and labor supply shocks could reduce growth. Fiscal vulnerabilities, potential financial market corrections, and erosion of institutions could threaten stability.

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