The positive sentiment in credit and money markets continued last week despite the rumours on the results of the US stress test on its top banks and then the final confirmation. There were no surprises.Markit Group's vice president credit research, Gavin Nolan, summed it up best when he said on Wednesday, in his Intraday Alert (for the UK and US markets), "The rally in credit is proving relentless. European credit indices again trounced their equity counterparts, which were far from weak." This was followed by a very strong day in Australia on Thursday. The credit research team at National Australia Bank Global Markets noted that the Aussie iTraxx closed the day at 230 basis points - that's a 50 bps fall in one day - which NAB attributed to a short squeeze. Nevertheless, only a week earlier the index closed at 309 bps and had been well over 300 bps for more than a month before that and had peaked at 440 bps in early March.NAB reported that Thursday's short squeeze saw CDS spreads for Telstra and Telecom New Zealand contract by 25 bps to less than 90 bps, and spreads on GPT contracted by 500 bps to 700 bps, after the property trust announced its $1.7 billion equity raising (more on this below). Lend Lease and Westfield also benefited with their spreads contracting by 125 bps and 90 bps to 300 bps and 400 bps, respectively.Of course, as alluded to in the opening paragraph, the main European index and the investment grade CDX index in the US have also rallied substantially. The European index closed at 123 bps on Thursday, down from a peak of 209 in early March, and the CDX index closed at 146 bps. Its early March peak was 262 bps. All indices have now contracted by more than 50 per cent from their peaks; but to keep this in context, they are still only back to where they were in early November 2008 for the Aussie iTraxx, and around their levels in either late September or early October 2008 for the other two.The key indicators of liquidity in the money markets have also rallied. The TED spread (three-month US dollar Libor to three-month US Treasuries) and the spread between three-month US dollar Libor and overnight index swaps had both narrowed to 77 bps by the end of trade on Thursday, with the Libor rate falling under one per cent during the week. In Australia the spread between three-month bank bills and the overnight index swap closed at less than 22 bps on Thursday. This is only about 10 bps from what was once considered the normal spread. Again all measures are well off their early October 2008 peaks of 458 bps, 429 bps and 144 bps, respectively. As observed in this column before, it was the credit markets that got us into this economic mess and the credit markets must help lead us out. At the moment things are going in the right direction.