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Credit Spread Signals This is No Market Bust

By David Skarica   |   Tuesday, 18 Aug 2009 03:52 PM

First, let's get the definition out of the way: The TED spread is the difference between the interest rates on interbank loans (known as Libor) and short-term U.S. government debt (T-bills).

Basically, when there is a large gap between the rate that banks lend to each other at and what the fed is lending to banks it means that banks do not trust each other, that is, that financial conditions are bad and credit is tight.

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This happened after the failure of Lehman Brothers last year, when the TED spread jumped to 400 basis points, the highest level since the credit crunch of the early 1980s.

During the financial crisis, the spread never got below 70 basis points and spent much of it time above 100 basis points, which is very high.

On this most recent equity rally, though, the spread has gotten down to 26 basis points. This is back to normal, pre-crisis levels.

This signals that there is little to no stress in the financial system and that any equity market pullback should be orderly and just a pullback — not the start of a major leg lower.

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DavidSkarica
First, let's get the definition out of the way: The TED spread is the difference between the interest rates on interbank loans (known as Libor) and short-term U.S. government debt (T-bills).Basically, when there is a large gap between the rate that banks lend to each other...
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