As a former long-only equity portfolio manager, I feel like I am in a position to say the following without insulting anyone: Credit investors are smarter! They have a keener sense of risk and are generally more anticipatory of market stress. When equity markets experience a selloff, it suggests that investors are becoming more risk-averse or concerned about future earnings. However, if credit spreads—meaning the additional yield investors demand to hold corporate bonds over risk-free government bonds—remain tight, it indicates that bond investors are not pricing in a significant increase in default risk.
This is an important signal because credit markets tend to be more directly tied to a company’s fundamental solvency. If credit spreads were widening alongside falling equities, it would suggest that financial distress is spreading across the capital structure, increasing the risk of defaults and systemic stress. However, if equities are declining but credit spreads remain stable, it often implies that the equity market is overreacting or that the selloff is driven by factors such as sentiment, liquidity driven selling, or technical pressures rather than fundamental deterioration.
All this to say—we are keeping a close eye on credit spreads for indications of whether the recent U.S. equity market sell-off could become deeper and more protracted. Until then, chalk this up to a healthy rerating due to uncertainty on a number of fronts: U.S. economic resilience in the face of policy uncertainty (tariffs, regulations, government job cuts); how will the Fed react (or not); and geopolitical uncertainty.
As we have been saying consistently for a while now, given the runup in U.S. large-cap stocks over the past two years, it is prudent to rebalance portfolios regularly regardless of market direction. While minimizing taxes is one lever we can and do control, we are also aware that tax considerations should not be the primary driver of decisions.
Rebalancing may include trimming an overweight in U.S. large-cap stocks and enhancing diversification with a market weight in foreign equities (both in developed markets and emerging markets) and small caps, as well as looking to increase ballast in the form of cash, fixed income and Diversifiers (hedge funds and private credit) if underweight in those. On an individual basis, we are also working with clients to update their sustainability analyses and evaluate whether they should/can move to a lower risk asset allocation. It’s not too late despite the recent marginal downturn.
