Two of the fixed income securities that best portend economic strains — US junk bonds and the financial sector’s high-grade bonds — are rallying as the economy hums along. The trend may continue as fears of a recession subside.

The average spread on US junk bonds has tightened by 24 basis points to 299 basis points so far this year, according to a Bloomberg index. That of high-grade financial bonds has also tightened by 16 basis points during the period, another Bloomberg index showed.

The rally in those spreads is likely to continue in 2024, according to revised credit forecasts by Goldman Sachs Group Inc. strategists. “We also think the continued improvement in macro volatility and low recession risk will likely continue to support a healthy market,” credit strategists including Lotfi Karoui wrote in a March 28 note.

The Wall Street bank’s outlook matches other sanguine notes from those betting on the US economy’s soft landing despite lingering inflationary concerns. The Federal Reserve’s anticipated pivot to cutting rates later this year may eat into the financial sector’s interest income, but it will also take pressure off borrowers and reduce debt-repayment risks.

US junk bond spreads are expected to narrow to 291 basis points by the year-end, Goldman’s strategists wrote.

Yield premiums on high-grade financial bonds will likely move below those of non-financials this year, they said. If they fall below those of the broader high-grade index, it would be the first such drop since the failure of Silicon Valley Bank in March 2023, based on Bloomberg indexes.    

“We are adjusting our spread forecasts to reflect the rally in the first quarter as well as our retained conviction on being overweight financials over non-financials in investment grade,” the strategists wrote. “Despite the move higher in rates year to date, the total return performance of high-yield bonds has remained resilient while excess returns have gained more momentum.” 

The bonds’ rally in spreads in the first quarter fueled a surge in issuance. Sales in the US high-grade bond market in January hit its all-time high for the month. The activity in February remained busy, also marking its highest total ever for the month. 

This article was provided by Bloomberg News.