Taking the pulse of the U.S. economic cycle

Estimating our current position in the business cycle is highly useful for asset allocation, as specific asset classes tend to perform differently depending on which stage of the cycle the economy is currently in. In situations like now when economic data can be conflicting, it’s helpful to look at the high yield spread as a proxy. Here’s what it says about the cycle, and what it could mean for your portfolio. 

The business cycle typically includes four stages: 

• Recovery: The economy shows positive growth, declining inflation, rising consumer spending, and generally lower interest rates.
• Growth: The economy stabilizes at a sustainable growth rate.
• Peak: Economic overheating begins, with demand outpacing supply, leading to slower growth, rising inflation, and higher interest rates.
• Recession: The economy experiences negative growth and inflation, falling consumer spending, and declining corporate profits. 

One approach for identifying the current phase of the cycle involves analyzing high yield bond spreads. These spreads reflect the pricing of both risky and risk-free assets, making them a valuable investment indicator. 

Using the 10-year median spread and the 3-month change to map the level and direction of the spread to the business cycle stages, we get the following framework: 

• Above median + falling: Recovery  
• Below median + falling: Growth  
• Below median + rising: Peak  
• Above median + rising: Recession     

A simple strategy based on this model by overweighting equities in the earlier stages of the cycle (recovery and growth) and increasing allocations to fixed income near the end of the cycle (peak and recession) would have historically yielded higher returns and lower drawdowns than either an all-equity or a 60/40 portfolio.   

Currently, data from the ICE BofA U.S. High Yield Index’s option-adjusted spread shows: 

• Current spread: 284 bps
• Spread three months ago: 312 bps
• 10-year median spread: 387 bps 

With the spread below the median and falling, the model suggests we are in the growth phase. This aligns with broader macro indicators, such as the GDPNow estimate of 3.0% for Q3 2025, and expectations of imminent Fed rate cuts. Together, these signals support a continued overweight to risk assets. 

Maverick Lin contributed to this article.