Here’s what I said just a few days ago in my posting on market predictions:

The bond markets stand as stark evidence that the Fed is in the process of successfully re-engineering an asset/commodity bubble, that can and will only end in tears.  The bond bubble was the first marker in 2007 that something was amiss.  As soon as PIK (payment in kind) bonds again become the rage, it will be clear that something is wrong.  Given even more and cheaper money on the way from the Fed, it’s likely the day of reckoning is not far off.

Here’s what the Wall Street Journal reported yesterday (subscriber content):

Do credit investors have goldfish-like memories? Bull-market bond and loan structures are back. First came subordinated corporate bonds that blend debt and equity. Then century bonds with 100-year maturities. And now covenant-lite high-yield bonds and loans are back in vogue. The latest frantic search for yield triggered by the liquidity unleashed by quantitative easing could lead to capital being misallocated.

Bond markets are the canary in the coal mine pointing to monetary shenanigans about to blow.  The easier goes the underwriting (PIK, covenant-lite); the lower the spreads between  junk and good paper, the more poisonous is the financial atmosphere and the sooner and more explosively will the financial system blow apart.    It’s as simple as that.  And it appears the bond market is getting more and more like it was in the summer of 2007, when bond issuers were practically requiring fellatio as a condition of allowing someone to lend them money.   Shortly after it was reported in July of 2007 by the New York Times that risk had apparently been all but eliminated in the bond market, given the spreads between junk and AAA, residential real estate imploded, setting all those risk-free junk bonds on their ear.

Then as now, risk-free junk does not exist.  It’s not clear this time what will be the tipping point that resets risk-adjusted returns.  Maybe another crisis in Euro-area fiscal imprudence.  Maybe a Chinese recession.  Maybe even the foreclosure mess here at home.  But it’s coming.  When it does, the aftermath is likely to closely resemble its forerunner crisis.