Credit Spread
The difference in yield between a corporate bond and a comparable-maturity government bond. It reflects the additional compensation investors demand for taking on the credit risk of a non-government issuer.
The credit spread represents the risk premium that corporate bond investors earn above the "risk-free" rate offered by government bonds. A corporate bond yielding 5.5% when a comparable Treasury yields 4.0% has a credit spread of 150 basis points (1.50%).
What Drives Credit Spreads
- Credit quality — Investment-grade bonds (rated BBB and above) have tighter spreads than high-yield (junk) bonds
- Economic outlook — Spreads widen during recessions as default risk rises, and tighten during expansions
- Market liquidity — Spreads can widen when investors rush to sell and liquidity dries up
Credit spreads serve as a real-time barometer of market stress. Rapidly widening spreads often signal growing fear of economic slowdown or financial contagion. Bond investors use spreads to evaluate whether the extra yield adequately compensates for default risk. For context on how bonds fit into a broader strategy, see our guide on bonds vs. stocks.