Stock Market Selloff Deepens as Credit Markets Hold Steady
As the markets closed on Monday, investors were left reeling from one of the worst single-day declines in years. Some of the most well-known and widely held stocks in the market, often grouped together as the "Mag7," suffered significant losses, with several entering correction territory. A notable example was Tesla, which had already tumbled nearly 50% from its recent peak. Despite the widespread panic in equities, one crucial area remained relatively stable: the credit market. This was somewhat surprising, given that credit often serves as a key indicator of broader financial stress and can act as a major catalyst for Federal Reserve intervention.
This observation was central to the latest insights shared by Abel Elizalde, a trader at Goldman Sachs' Fixed Income, Currency, and Commodities (FICC) division. In the bank's most recent analysis of the credit markets, Elizalde pointed to uncertainty in economic policy as a primary driver of the equity selloff. Recent decisions by the Biden administration, including the imposition of tariffs and cuts to the Department of Energy's budget, contributed to the growing instability.
Elizalde noted that the U.S. appears to be shifting its economic strategy, moving away from a globalized approach toward a more insular, domestically focused model. The rationale behind this shift seems to be prioritizing economic security over maximum growth, with the hope that inflation and interest rates will remain manageable. However, the challenge with this approach lies in execution. The uncertainty surrounding these policies is shaking investor confidence and weighing heavily on the market. According to Goldman Sachs' economic forecasts, these policies are expected to slow growth, though the economy is still projected to expand by over 1.5% in 2025. Core inflation is anticipated to remain elevated, close to 3%. From a credit market perspective, such an environment—moderate growth combined with persistent inflation—is not catastrophic but does introduce new risks.
The pressing concern, however, is that continued uncertainty could push equities lower to a point where credit markets begin to deteriorate. At what level would this tipping point occur? That is the question on everyone's mind, but the answer is elusive. The only way to definitively identify this threshold is in hindsight. However, the more immediate and practical question to ask is: what would cause the credit markets to crack?
Over the past week, this was the most frequently asked question from investors, according to Elizalde. In his assessment, a significant downturn in credit markets would likely result from a combination of key factors playing out simultaneously:
First, a tangible deterioration in economic conditions. Specifically, rising unemployment could act as a major trigger. If job losses accelerate, corporate earnings will take a hit, and companies will struggle to manage their debt loads. While funding costs are already high, a weakening labor market would remove one of the few remaining bright spots in the economy. However, recent employment data suggests stability, with European unemployment declining last week and U.S. job numbers remaining near historically low levels.
Second, a wave of investor outflows from credit markets. This is difficult to predict, and as of now, there is little evidence of significant outflows occurring. In Europe, investment-grade bond returns have turned negative for the year due to rising interest rates, but higher yields could attract new buyers looking for better returns. In the U.S., Goldman Sachs' research team notes that while valuations remain tight relative to historical norms, the presence of duration in fixed-income investments helps cushion the impact for investors, potentially keeping them in the market.
Third, a further sharp decline in equity markets. The challenge here is defining what percentage decline would be severe enough to spill over into credit markets. There is no clear consensus on this point. Moreover, it is possible that the U.S. government could intervene if stock prices reach a level deemed too damaging to economic stability, potentially adjusting policy execution to calm markets.
Finally, an unexpected geopolitical event could send shockwaves through the financial system. For example, if the conflict between Russia and Ukraine were to escalate beyond current expectations, it could introduce a significant external shock that destabilizes credit markets.
At this stage, none of these risk factors have fully materialized, and credit markets remain relatively stable. However, concerns persist, leading to further market analysis from JPMorgan's Andrew Tyler. Although he has turned more bearish recently, he anticipates an imminent short-term rebound in stocks, albeit one that should be viewed as an opportunity to sell rather than a signal of sustained recovery.
JPMorgan's head of cash risk trading, Elan Luger, provided additional insight into the current market dynamics. He noted that genuine deleveraging is finally beginning to take place in U.S. markets, a necessary step before a true bottom can form. Last week, heavily concentrated long positions in stocks saw an 8.8% decline, while crowded short positions decreased only slightly. JPMorgan's prime brokerage data shows that the pace of deleveraging accelerated last Thursday, particularly in North America and Europe. In the U.S., momentum stocks and hedge fund-favored names suffered one of their worst trading days in months. With the latest downturn in futures, the S&P 500 is now down approximately 8.5% from recent highs, a level that historically represents the deeper end of market pullbacks.
So, where do things stand now? Technically speaking, markets appear to be approaching the later stages of their decline. However, while technical indicators suggest a potential bounce, there is no easy resolution to the broader bearish narrative surrounding U.S. equities. The ongoing tariff situation is widely understood, and if forced to make a prediction, one might bet on a negotiated compromise rather than a full-scale trade war. Nonetheless, some market observers remain deeply concerned about the implications of recent policy shifts.
One notable perspective came from hedge fund manager Scott Bessent, who remarked last Friday that markets and the economy have become too reliant on government spending. He suggested that a period of adjustment—or "detox"—could be on the horizon as fiscal support is withdrawn. This view implies a deeper structural shift that may not yet be fully reflected in current market prices, even after an 8% decline from all-time highs.