How much longer can the boom in the U.S. credit market last?
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Since 2025, the US credit market has continued to heat up and entered an explosive state at the beginning of this year. Whether in the investment-grade (IG) or high-yield (HY) market, credit spreads have been compressed to near historical lows: IG corporate bond spreads (OAS) once approached the extremely low levels of 1998, and HY corporate bond spreads are also at a historically narrow range.
The primary market issuances are also exceptionally active, with low financing costs attracting a wave of corporate bond issuing: since the start of the year, corporate bond issuance has reached a record high for the same period, the subscription multiples for new bonds have risen significantly, and new bond issuance premiums have been pushed down to extremely low levels, with some deals offering almost zero price concessions. The annual amount of corporate bond issuance in 2024-2025 is $2 trillion, significantly higher than the $1.5 trillion in 2022-2023. Among these, in 2025, IG corporate bond issuance is set to reach a record $1.64 trillion, and in 2026, driven by AI capital expenditure, total supply is expected to hit a new record of $1.8 trillion.
In addition, the revival of mergers and acquisitions (M&A) activity has also increased financing demand, ushering in a supply peak for the US credit market driven by both AI infrastructure and corporate M&A.
Against the current backdrop of extremely compressed credit spreads and market risk premiums squeezed to very low levels, the safety buffer of credit assets has become considerably thinner, and the US credit market has entered a low-tolerance phase. At present, the premium on new bond issuances is only 1.3 basis points, far below last year’s 3 basis points. The source of credit returns is changing: previously, returns came both from coupons and from capital gains due to spread compression; now, with limited further room for spread narrowing, the structure of credit returns is quickly shifting to rely mainly on coupon income.
Credit returns are now highly dependent on coupon income and the passage of time, while there is limited room for further spread compression; if risk events significantly increase, the asymmetry of spread repricing will be greatly amplified. However, despite the recent rise in geopolitical risk, uncertainty over Trump’s tariffs, and increased threats to the Fed’s independence, the credit market continues to ignore potential risks. For the IG market, these risks are offset by strong investor demand, displaying notable complacency. Investors now face a dilemma of not wanting to miss out on rallies (FOMO) while being forced to accept extremely low risk compensation.
On the other hand, hidden risks in the credit market are accumulating, and the bond market's role as the "canary in the coal mine" is weakening. Over the past twenty years, credit spreads have generally been accurate predictors of default risk. However, with the explosive growth of the private credit market—over $200 billion of new private loans added annually in the past two years—a large amount of high-risk debt (whose average credit quality equates to 'B'-rated speculative bonds in the public market) is now hidden from public view. The private credit market’s lack of transparency, liquidity, and effective market pricing mechanisms is gradually undercutting the traditional bond market’s warning function based on credit spreads.
In addition, last year's AI boom drove US tech giants to borrow aggressively, raising concerns over debt issues. The market is highly dependent on the AI narrative; if earnings disappoint or technical iteration risk surfaces, it will directly test issuers’ refinancing ability and the bond market's absorption capacity. If valuations see a sharp correction and tech IG bond spreads widen drastically, risk would quickly transmit to private credit funds, banks, and pension systems that finance them.
Why is the market so hot?
Despite the extremely tight starting valuations, the logic supporting this current cycle remains solid, and IG and HY markets are still likely to deliver positive excess returns. Firstly, the US economy is demonstrating unexpected resilience and inflation is falling, coupled with expectations of Fed rate cuts (albeit at a slower pace), forming a perfect “Goldilocks” macro environment for credit, enough to keep spreads within range.
Moreover, there is significant duration protection. Since 2022, the effective duration of both IG and HY markets has declined sharply—IG is at a near 10-year low, and HY has hit a record low. Even if spreads widen again, the impact on pricing will naturally be smaller.
Unlike previous cycles, AI is a core driver in this round of credit expansion. AI capital expenditure is insensitive to macroeconomic variables—regardless of interest rates, tech giants maintain huge investments to capture computing power. In 2026, AI-related bond issuance alone is expected to reach $500 billion. This rigid demand, together with abundant investor cash, means the primary market can absorb huge supply with ease.
Short-term corporate fundamentals are healthy and offer support. Although leverage has increased, most companies still have strong interest coverage abilities, and earnings are improving heading into 2025. Rating migration data shows a continued trend toward upgrades within investment-grade bonds, with the ratio of BBB-rated bonds at a ten-year low. This underpins a certain sense of security for the market based on credit fundamentals, allowing investors to temporarily ignore the risks of long-term debt accumulation.
Additionally, on the funding side, despite a surge in corporate debt supply, insurance companies and pension funds continue to show strong demand for long-duration assets, with mutual funds and ETFs seeing robust inflows and investors holding large amounts of cash, leading to very high subscription multiples for new bonds. Especially with expectations of a steeper yield curve, high-grade corporate bonds remain the top choice for locking in returns. Furthermore, Trump’s plan for government sponsored enterprises (GSEs) to buy $200 billion in MBS also indirectly benefits investment-grade credit spreads.
Subsequent focus
History shows that during periods of very tight spreads, negative shocks often lead to a sharp rise in credit spreads and significant negative returns. For example, after the spread lows in early 2007 and late 2021, there were both severe market corrections.
But currently, even with very tight starting spreads, the credit market still has the capacity to deliver positive excess returns. The reasons are a strong macro background, improving corporate fundamentals, and lower duration risk. As long as there is no recession, coupon income will be enough to offset minor capital losses from spread fluctuations.
Watch out for the risk that the massive supply driven by AI and M&A could widen IG spreads. With excessive supply pressure from AI capital spending and M&A activity, investment-grade spreads are expected to widen to around 95bp in 2026, bringing full-year excess returns close to zero. In contrast, high-yield debt (HY), with relatively controllable supply and benefiting from economic growth, may outperform IG bonds.
Near-term catalysts: watch the tech earnings season after January 29, which will be a key point to test whether AI spending can be absorbed by the market. If tech giants announce AI capex plans that exceed market expectations or the resulting bond issuance exceeds market absorption capacity, spreads could rebound quickly.
Also watch for the fading of the “January effect”: spreads often tighten at the start of the year, then may rebound. Investors should be alert to the repricing of spreads when the supply flood hits. But even if there’s a sharp pullback, since 2022 the market has recovered within a month.
Risk Disclaimer and Liability StatementThe market has risks, and investment needs to be cautious. This article does not constitute personal investment advice, nor does it take into account the special investment goals, financial status, or needs of individual users. Users should consider whether any opinion, view, or conclusion in this article is suitable for their specific situation. Investment based on this article is at your own risk.
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