The Data: Spreads at Historic Lows
The public high-yield bond market is closing 2025 with a resounding signal of optimism. According to the latest data from the Federal Reserve Bank of St. Louis, the ICE BofA US High Yield Index Option-Adjusted Spread (OAS) tightened to 2.84% (284 basis points) as of December 24, 2025. This marks a decrease from 2.95% just a week prior, consolidating a month of aggressive risk-seeking behavior by investors.
This compression is not limited to the higher-quality tiers of the junk bond market. The risk appetite extends deep into the credit spectrum, with spreads on CCC & Lower rated bonds tightening to 8.75%. Historically, sub-300 basis point spreads in the broader index indicate that the market has fully priced in a “soft landing” scenario, leaving virtually no margin for error should macroeconomic conditions deteriorate.
The Market Sentiment: Priced for Perfection
A spread of 2.84% represents a market that is essentially “priced for perfection.” Investors, driven by a fear of missing out (FOMO) on yields in a stabilizing rate environment, are deploying capital aggressively. This compression suggests that public market participants perceive corporate default risks to be negligible in the near term.
When spreads are this tight, we typically observe two concurrent trends in the public markets:
- Loosening Covenants: To win allocations in hot deals, lenders often accept “covenant-lite” structures that strip away creditor protections.
- Yield Chasing: Funds are forced to buy lower-quality paper to meet return targets, pushing asset prices up and yields down artificially.
The Bond Capital View: Discipline Over Volume
While the exuberant rally in public credit is good news for borrowers seeking the lowest possible cost of capital today, it creates a fragile ecosystem for the future. At Bond Capital, we view sub-300bps spreads as a signal to heighten, not lower, our vigilance.
We define this environment as Risk-On, but with a warning label. In an overheated market, discipline is the investor’s only shield. While public market participants may be willing to loosening terms to win deals, Bond Capital focuses on structure and strong downside protection. We do not chase yield by sacrificing covenants. Instead, we remain focused on the middle market, where credit fundamentals—cash flow, collateral, and management quality—matter more than temporary market sentiment. For borrowers, while public windows are open, the certainty of execution and partnership offered by private credit remains a prudent hedge against the volatility that inevitably follows periods of extreme tightening.
