Credit conditions are the bridge between Fed policy and the real economy. When spreads widen and bank lending tightens, the cycle ends — regardless of what other indicators say. Six signals: NFCI, ANFCI, HY OAS, IG OAS, 10Y-3M curve, and 10Y real yield.
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Chicago Fed's National Financial Conditions Index aggregates 105 measures of money-market stress, credit-market spreads, and leverage. Above 0 = tighter than average; below 0 = looser. The adjusted version (ANFCI) controls for current cycle position, isolating "tightness vs. what the cycle would imply." Hard rule: NFCI > +0.5 historically precedes recessions by 6-9 months.
Option-adjusted spreads are the market's real-time pricing of default risk vs Treasuries. HY OAS above 800bp = stress regime; below 350bp = complacent. IG OAS climbs first in slowdowns; HY climbs second; equity drawdowns follow. The spread between HY and IG is itself a stress indicator — when HY widens faster than IG, market is repricing the bottom of credit.
The 10Y-3M curve is the NY Fed's preferred recession-model input. Inversion (negative spread) precedes every post-1970 US recession with 8-18 month lag. The 10Y real yield (TIPS) is the restrictiveness indicator: positive real yields = monetary policy tight in real terms, independent of where nominal rates sit.