Credit Risk.

When diving into murky economic waters we typically begin by repeating our mantra:The market is not the economy.

Today, however, it doesn’t apply because we’re talking about credit markets. The world runs on credit and it affects everything and everyone from individual consumers to sovereign nation states. At the moment, there are some serious issues with certain debt markets. So we’re going to unpack it together today to understand the scope of credit markets and where the biggest risks are, identify winners and losers, and reveal a stunning maneuver in the corporate bond market that will make your blood boil.First off, let’s talk about why there’s so much attention on debt right now. There was a triple whammy recently that gave pause to the financial markets. First was the treasury selloff in April that raised the yield on the 10 Year Treasury. It was a complete and sudden inversion of market norms that spooked everyone from Wall Street to the Oval Office. Second, Moody’s downgraded the United States rating from Aaa and changed its overall outlook from stable to negative on May 16th. Then, on May 19th, JPMorgan Chase CEO Jamie Dimon said this:

“Personally, I don’t like making forecast stuff like that. I am not a buyer of credit today. I think credit today is a bad risk. I think that people who haven’t been through major downturns are missing the point about what can happen in credit.”

In fairness, Moody’s downgrade was a long time coming. In fact, they were the last of the so-called Big Three ratings agencies to mark down the United States. Some Republicans and commentators cried foul about the timing of the downgrade as it came during the negotiations for the “Big Beautiful” pile of flaming dog shit the GOP is proposing as a spending bill. But even the most vocal critics realized it was a hollow argument considering the GOP self loathing over the exploding deficits they’re about to codify. But when Jamie Dimon issued his warning about the credit market, it landed differently in investor circles.

The debt markets are getting a lot of play these days with global investors from nation states to pension funds selling off U.S. Treasuries in the wake of Trump’s multifront tariff wars and the ballooning budget deficits. It’s a strange place to be because equity markets typically drive all the headlines and intrigue in global finance. But there’s a good reason for the newfound unwanted attention. The creditworthiness of the United States has been the sole driver of economic growth on the planet since World War Two. As the world’s biggest economy with the world’s reserve currency, the U.S. has not only dictated economic terms, it has accumulated the most wealth of any nation in history.

Credit makes the world turn and the debt markets are three times the size of equities.

So when Jamie Dimon says credit is a bad risk right now, it’s important to understand what he means. There’s the big stuff like treasury bills that fund ours and other governments. That’s what most people probably think of when they hear the financial channel pundits talk about the debt market. But that’s probably not what Dimon is talking about.

There is a whole world of credit that fuels the world economy. Corporate bonds that are sold on public and private markets. Commercial and consumer mortgages are huge markets as well. As are the financial instruments that bundle them together in something called collateralized debt obligations (CDOs). You’ll recall these gems from the financial crisis. There are bank loans, construction loans, mezzanine and bridge loans, lines of credit, auto loans, litigation loans, royalty loans, import and export factor loans, equipment leasing, personal loans like credit cards or home equity loans and then there’s the real fucked up one that I’ll get to later.

But I’ll give you a hint…think Cayman Islands.

Systemic Risk: Big Beats Little

As we dig into specific markets, we need to make a key distinction between current circumstances and the events that led to the global financial crisis (GFC). Unlike ‘08 and ‘09, there appears to be no systemic risk akin to the subprime mortgage catastrophe. If there is something bigger than a deep recession on the horizon, it won’t stem from one massive blind spot like ratings agencies pushing through Aaa grades on CDOs that were leveraged past liquidity thresholds.

That’s because the industry learned a lot from this experience and has spent the past 15 years building in protections against this type of leveraged risk taking. First off, they had a decade of free money in the form of near-zero interest loans and purchasing treasuries with small yields to build up liquidity. It was legalized arbitrage intended to make the big banks whole again over time. And then some.

The biggest players from investment banks to top public companies also spent the decade building up cash reserves from this program, moving garbage off their balance sheets and deleveraging.

As a result, the big guys got bigger, more solvent and extremely liquid. And they did it all on the taxpayer dime.

This is the first takeaway. The big guys got bigger and are extremely healthy. Even now. That’s why stock buybacks hit record heights thus far in 2025. They have the money to prop up their earnings ratios even as profitability declines. They can weather pretty much any storm that comes their way.

It’s important to benchmark today versus 2008 to understand what it means to suggest that credit is a “bad risk.” There’s systemic risk that comes from overleveraged credit default swaps in a vehicle like consumer mortgages that is both the biggest credit market and the biggest source of consumer equity and savings. Then there is risk contained within a certain asset class. For comparison’s sake, the student debt market (which we’ll talk about next) is $1.7 trillion, while the U.S. mortgage market is around $12.5 trillion. So when the mortgage market collapsed it impacted the consumer significantly and it cratered the financial system because of the size of the investment base and, more importantly, the leverage on top of the $12.5 trillion.

Systemic risk like the mortgage meltdown is when the dam bursts all at once like a tsunami. What we’re seeing now is different. It’s more like little holes opening up all over the dam. It might not burst, but left unattended it can crack, and water will start pouring out. So whereas the Fed and the Treasury had to completely reconstruct the dam further down the river to prevent the world from flooding, this time it depends on how many fingers Jerome Powell and Scott Bessent have to plug the holes along the way.

One of the holes that’s opening up right now is, in fact, the student debt market. The reason I’m starting with student debt is because it’s a widespread risk. Similar to mortgages, it’s debt held by real people in the economy who carry the most exposure. Because the mortgage meltdown in the GFC is still very raw and real for so many of us, I think it’s a helpful starting point to understand the nature of credit markets. The point is to draw a useful comparison and identify the differences, but to be clear, this isn’t the credit investment market that Jamie Dimon is talking about.

Take a look at the above chart from the New York Fed and you can see that total consumer debt increased by $167 billion in the first quarter of 2025 to a total of $18.2 trillion. In this number there is some positive news, some negative news, and some negative news masquerading as positive. 

For example, New York Fed also notes that auto loan balances declined by $13 billion. That’s good news on the face of it. However, student loans—which actually decreased under the Biden administration due to refinancing and forgiveness initiatives—increased again to $1.63 trillion. The real bad news here is that the data show a large uptick in delinquencies.

Some bad news hiding under good news is that credit card balances actually fell by $29 billion in the first quarter. The reason I say that’s hiding bad news is that it shows the consumer is starting to cut back. Because real wages haven’t grown commensurate with this decrease, it means there’s belt tightening and people are starting to dip into savings to pay down debt. Generally this is a good thing, of course, because consumer debt is out of control, but it means that we’re probably going to see a decline in consumer spending data releases in the coming months.

This is where sentiment data hardens and turns to real data and that will undoubtedly spook the markets. As it should.

Another form of household debt tucked in this number could explain how credit card debt is decreasing. Home equity line of credit (HELOC) balances rose by $6 billion, which means people are pulling out equity from their homes at a lower rate than their credit card debt. Again, at face value this is a smart move on the part of the consumer, but when you pair this figure with an increase in mortgage delinquencies in the same quarter to 4.3 percent of outstanding debt, it demonstrates a softness in consumer credit. Now remember, this is for the segment of the population lucky enough to even own a home so if this part of the market is showing signs of strain, then you can imagine what’s happening further down the economic ladder.

So we have student debt at an all time high and defaults on the rise. Now take a look at the most recent employment data in this chart from the New York Fed derived from BLS data.

You can see that unemployment among recent college graduates is increasing faster than other categories as of 2025. Between December of 2024 and the end of Q1 2025, the recent college graduate unemployment rate went up a full percentage point.

With Biden era forgiveness programs for public service workers coming to an end along with refinancing and forbearance programs, there’s a storm brewing among student debt holders. Now here’s the important distinction that makes this a hole in the dam rather than a systemic risk. When mortgage defaults hit a certain threshold it created a liquidity problem for the financial institutions that bundled investments and leveraged them to the hilt. Ultimately the government was able to work out the problem by shoring up bank balance sheets with liquidity and taking the assets, the actual mortgage securities, off their hands because there was underlying collateral as security: the homes themselves.

In the student debt market, there’s no equivalent on the vast majority of the loans. There is something called student loan asset backed securities (SLABS), but it only applies to the private lending space and not the bulk of federal student loans. Banks are prohibited from bundling these kinds of loans. That’s why the risk here is isolated to the individual debt holders and the U.S. government as the guarantor and a collapse in the student debt market doesn’t present a larger systemic risk to the entire financial system.

Credit Markets

Let’s go into a quick round robin of some of the markets that the investor class is more concerned with from a credit risk perspective. Outside of credit from nations, the biggest class of debt is corporate. Narrowing our scope to just the United States, there’s a split starting to occur in the quality. On the small scale, Small Business Administration (SBA) loans were in real trouble prior to the pandemic because interest rates were beginning to climb and some of the economic fundamentals under Trump had begun to deteriorate for small businesses. Forbearance and relief efforts during the pandemic brought default and delinquency rates down to negligible levels but they have been steadily on the rise since that time.

According to the Coleman Report that tracks this activity, the default rose to 3.4% in 2024 and it’s projected to hit crisis levels this year and next as small businesses struggle with higher interest rates and a slowing economic environment.

Heading into the public markets, there’s further bifurcation as the large corporate bond sector remains relatively stable if not healthy. However, data from Lincoln International show that the pace of EBITDA—meaning earnings before interest, taxes, depreciation, and amortization (but everyone calls it EBITDA)—growth among S&P companies is beginning to slow in 2025 while leverage is rising. The most recent report also notes that there has been an increased use of something called payment-in-kind (PIK) interest. PIK is a form of mezzanine or bridge financing from alternative sources like private equity or hedge funds who take subordinated positions to traditional debt and forgo immediate principal payments for a higher interest rate burden.

So again, it’s interesting to note that there is elevated risk in both the SBA and lower end of the public credit markets. Hold that thought.

Moving back to the consumer side of things (we covered some consumer charts in a recent UNFTR YouTube video) there are signs of serious distress in the sub-prime auto loan market with over 6.5% of borrowers at least 60 days past due on their loans as of January.

This is the continuation of a trend from the past couple of years but it’s important to note that this figure is already at an all-time high.

One last note on housing, there’s trouble brewing as the Mortgage Banking Association reported an increase in delinquencies on one-to-four-unit residential properties to 4.04% in the first quarter of 2025.

Beyond housing, the developing real estate crisis that you’ve probably heard a lot about is the commercial real estate (CRE) market. For years now, market observers have been warning of a large-scale refinancing crisis on commercial properties, especially in urban areas where office workers have yet to return to full capacity after the pandemic and large companies have been scaling back with the advent of remote work.

Commercial real estate is a different animal in that property owners are continually refinancing properties to pull equity from their portfolios. That’s because there are tax advantages to this kind of income. As a result, most commercial properties remain heavily leveraged, which is fine when you’re near or at rental capacity but when vacancies open up and your existing low interest rate note comes due, there’s a squeeze.

Here again, there are levels to this. As a Harvard Business report notes, the big banks with Class A properties on their books are going to fare much better for a couple of reasons. First off, they have higher quality, longer term leases that reduce this kind of risk. Second, at this level, the banks are very much incentivized to get creative come refinancing time. Donald Trump himself is the prime example of an owner-developer with a losing portfolio that can bully a large note holder to take a haircut. That’s how he built his empire.

It’s the smaller end of the commercial real estate market that is in real trouble. This is the bread and butter of regional and community banks that do the heavy lifting in the older Class C property market. As the report indicates:

“Fed officials have indicated that a CRE crisis will probably lead to bank failures. Multiple, simultaneous bank failures could be catastrophic for the financial system. Nonetheless, policymakers and regulators may be wary that Federal Reserve and FDIC liquidity injections might encourage excessive bank risk-taking in the future, justifying a more cautious approach.”

Here again, we’re talking about concentrated regional risk among smaller financial institutions and the markets—both consumer and commercial—that they serve. It’s not the kind of widespread systemic risk that we saw in the GFC, but it’s those damn holes in the dam that might pop up all over the country and present serious risk for regions that will be hit hard by Trump’s economic policies and the impending disaster that is the GOP spending bill.

And on that note, let’s talk about regions through a credit lens. One of the bright spots in credit has been municipal bonds.

Historically, these have been solid and safe investments, though not exactly highly profitable for investors. Yields are lower because guarantees and ratings are much higher. And the biggest issuers of tax-exempt bonds such as California, New York and Texas have been building up reserves in rainy day funds to ensure liquidity. This is where we have to start threading the narrative a bit to look ahead.

The GOP spending cuts disproportionately target state and municipal revenue offsets for crucial entitlement programs. And this disproportionately targets red states that desperately need federal dollars to balance their budgets and manage their portion of programs like SNAP and Medicaid. With more people losing healthcare coverage through Medicaid, an increase in unemployment through government layoffs followed by private sector layoffs, the other data points we shared start to paint an ugly picture.

While the big states with rainy day funds can weather the storm to maintain their debt obligations, starting in 2026 the federal government is going to devastate rural state budgets. This will degrade the quality of municipal bonds they will have to issue to cover any budget deficits as they’re constitutionally required to do. When deficits open up and states have to rely more on bonding to close the gap, investors have the ability to move quickly in this market. A significant portion of municipal bonds are held by individual investors and commercial banks due to their stability and liquidity.

So imagine a region that has an increase in commercial loan defaults, a higher percentage of government layoffs, subprime auto loan defaults and mortgage delinquencies that lead to foreclosures. These states and municipalities that didn’t have the financial resources to create rainy day funds will lose valuable tax revenue from individuals and businesses in the market. And when the federal government cuts funding to programs designed to support the very people who are displaced by an economic downturn, that’s how regional crises develop.

When you zoom out and connect the dots, a clear picture emerges that provides hard data to that feeling we talked about earlier. That notion that the fix is in and the big guys are taking care of their own. That’s exactly what we’re heading toward. Not systemically as in ‘08/‘09, but death by a thousand cuts, mostly to the lower end of the economic spectrum. But this kind of fallout is how contagions start. That’s why Jerome Powell is taking a wait and see attitude. He knows it’s coming but it’s almost impossible to predict the order in which the dominos are going to fall.

Plus, it’s a lot more complicated to inject liquidity into a thousand areas of the economy rather than the big liquidity measures into a few massive areas as they’ve demonstrated a willingness to do in the past.

That’s what Jamie Dimon means by credit risk. It’s everywhere. The yield on the 10 Year Treasury is for the big guys and nations to argue about. And that’s all about faith in the United States to dig itself out of this vicious debt cycle and put together something that resembles an industrial policy and economic plan that revitalizes the consumer and manufacturing sectors in particular. This kind of policy thinking is nowhere to be found in the GOP budget or Trump’s rhetoric right now, so on an institutional level things are going to get more expensive. But the takeaway is that at this institutional level they can manage the headwinds for a while because they’ve been preparing for this for 15 years. It’s the consumer, small regional banks, students, small businesses, municipalities and red states that have no idea what’s about to hit them.

And just to drive that point home, here’s the holy fuck the game is rigged in favor of the corporate class moment I promised you.

TIC(K) TOCK

There’s something called the Treasury International Capital (TIC) Market. This refers to the U.S. Treasury’s system for tracking cross-border portfolio capital flows into and out of the United States. It essentially measures the buying and selling of U.S. securities and financial instruments by foreign entities, as well as U.S. investments in foreign securities.

Take a look at this chart.

This is just a small snapshot of the purchases they track. Securities are broken down by Treasury bonds and notes, the difference there being duration, government agency bonds, corporate bonds and U.S. equities. This is just one of the mechanisms that the Fed and the Treasury use to understand where money is flowing so they can track it month over month to understand trends.

Ignore the totals at the top for a moment and look at the breakdown of individual asset classes.

If you look at treasury bonds, government agency bonds and U.S. equities from February to March you can begin to see evidence of a sell off of U.S. assets. Basically a decline from month-to-month as foreign investors started moving money around and trimming U.S. assets. But look at the corporate bonds figure during the same time period. Throughout all of 2024 there was a net purchase surplus of U.S. bonds of $262 billion, which is roughly $21 billion per month. That lines up pretty well with the activity you see here in December of ‘24, and January of 2025. Then there was a selloff in February before the figure rocketed back in March to hit an all time high.

So right at the moment the world started trimming U.S. treasuries, U.S. equities and agency bonds, and the entire world was predicting a global recession in 2025 led by the United States, foreign investors suddenly decided that U.S. corporation debt was the best bet?

Hardly.

This is the unbelievable part that shows you just how rigged the system is. You can’t hide a foreign transaction of something as visible as public corporate debt or equities. But what you can hide is who is doing the buying. When it’s as institutional and transparent as, let’s say, Japan’s treasury purchasing U.S. corporate debt, that’s easy. That’s all pretty public. But remember that TIC data just shows inflows and outflows. To really dig into who is on each side of the transaction you would have to dig into the issuing entities’ quarterly reporting statements and disclosures, and that takes some time. Even then, it’s often difficult to discern which foreign entity is doing the purchase because many of them are offshore corporations with opaque ownership structures.

You see where this is going?

We wrote an essay a while back about the Panama Papers and other disclosures that showed about $11 trillion globally was being held or hidden in offshore accounts, and of that amount, U.S. citizens and corporations owned about $4 trillion of it. Further, a 2018 study found that 73% of Fortune 500 companies operated subsidiaries in these tax haven countries.

These crooks have parked so much free government money offshore in tax havens for the past 15 years they can purchase their own bonds. It shows up in the TIC data as an increase in foreign investments into U.S. corporate bonds when in reality it’s the corporate on both sides of the transaction.

Now why is this important?

Because they can and you can’t.

Because they can and the regional commercial bank that supports a local economy can’t.

Because they can and the consumer, the municipality and community bank can’t.

The money they’re using to self finance through debt arbitrage is from the liquidity arbitrage they played for ten years using taxpayer dollars. Think about this for a second. The projected budget deficit for 2025 is $1.9 trillion. Wealthy individuals and U.S. corporations are hiding double that amount in offshore accounts. And it’s entirely legal because they’re the ones who wrote the regulations. Corporate America has become a self-financing sovereign entity unto itself. And that, my friends, is called oligarchy.

Here endeth the lesson.