"Despite a sharp plunge in government bond yields..." Corporate bond credit risk widens [fn Market Watch]

[Financial News] Although government bond yields have fallen sharply, the burden on companies borrowing money has barely eased. That is because investors are demanding a higher premium on corporate bonds even as market rates fall. Analysts say financing conditions are unlikely to improve for lower-rated companies, with the possibility of another Bank of Korea base rate hike and financial-market uncertainty still weighing on the market.
According to the financial investment industry and iM Securities on the 19th, from the 8th to the 16th, three-year government bond yields fell by 12.9 bp (1 bp = 0.01 percentage points) and 10-year yields by 21.3 bp. Over the same period, however, the credit spread on three-year AA- corporate bonds widened by 1.2 bp.
The credit spread measures how much more interest companies have to pay to borrow money compared with government bonds. This means that although government bond yields fell, investors demanded a higher premium on corporate bonds.
Lee Seung-jae, a researcher at iM Securities, said, “A narrowing gap between short- and long-term interest rates does not necessarily mean that the corporate bond market is improving.” He explained that while sentiment toward corporate bond investment improves when rate hikes have ended and financial markets stabilize, the credit risk premium on corporate bonds can widen even as government bond yields fall if concerns about further rate hikes remain.
An analysis of past interest rate movements found that during periods led by declines in long-term rates, the credit spread on AA- corporate bonds narrowed by an average of 4 bp over the following three months. By contrast, during periods led by rising short-term rates, it widened by an average of 6 bp. In other words, even though the yield-curve gap narrowed in both cases, the corporate bond market responded differently depending on whether concerns about rate hikes remained.
The burden was particularly heavy for specialized credit finance companies and A-rated firms during periods of rising interest rates. In past periods led by rising short-term rates, the credit spread on AA- specialized credit finance company bonds widened by an average of 11 bp over the following three months. The spreads on A+ and AA- corporate bonds widened by 8 bp and 6 bp, respectively.
Conversely, during periods when long-term rates fell, the spread on AA- specialized credit finance company bonds narrowed by an average of 6 bp, while the spread on A+ corporate bonds declined by just 1 bp. This means investors become more cautious about companies with relatively low credit ratings when interest rates rise, while sentiment toward them recovers more slowly when rates fall.
South Korea’s Financial Stress Index (FSI) currently stands at 19.5, in the caution range. The three-year government bond yield is also about 0.85 percentage points above the Bank of Korea’s base rate, reflecting concerns about further rate hikes.
Lee said, “The recent bull flattening, driven by falling long-term rates, could be the starting point for credit strengthening, but it alone cannot guarantee a narrowing of spreads,” adding, “We need to see whether expectations of further rate hikes ease and short-term rates and financial conditions stabilize.”
[email protected] Kim Hyun-jung Reporter