[Edaily Marketin Reporter LEE GEON-EOM ] Corporate bonds issued by non-investment-grade companies with a high risk of default are flowing indiscriminately into the accounts of individual investors. As securities firms resell (sell down) the “bomb” of bonds that could not be absorbed during institutional bookbuilding through retail channels, individual investors are left to shoulder the risk of default. Experts unanimously agree that fundamental institutional reforms are needed—such as significantly raising the barriers to entry for individual investors from the investment stage onward—to prevent the indiscriminate absorption of non-investment-grade corporate bonds.

According to the Bond Information Center of the Korea Financial Investment Association on the 6th, the total net purchase volume of corporate bonds from January 1 to the 5th of this year stood at 14.5221 trillion won, a sharp decline of approximately 35.7% compared to the same period last year (22.5887 trillion won). Conversely, the share of corporate bonds purchased by individual investors in total net purchases rose by 4.3 percentage points (p), from 20.5% to 24.8%, during the same period. This indicates that, even amid an overall market contraction, the behavior of institutional and individual investors diverged.

The fact that the share of retail purchases expanded even as the overall market contracted is interpreted as a result of institutions holding fewer non-investment-grade corporate bonds, thereby shifting a correspondingly larger volume onto retail investors. This is because, typically, investment-grade corporate bonds are snapped up during the institutional bookbuilding phase, whereas the retail supply available to individual investors consists mostly of unsold bonds that institutions have shunned.

For non-investment-grade bonds rated BBB or lower, unsold bonds frequently result from institutional bookbuilding, leading to an overwhelmingly high proportion where the lead underwriter underwrites the entire amount and then resells it through retail channels. Ultimately, this structure results in risky securities—which failed to pass even the stringent risk screening of institutions—being passed on in their entirety to retail investors under the guise of “high interest rates.”

The problem is that there are not even minimal entry barriers to protect retail investors. Currently, for general corporate bonds, anyone can easily invest through a securities firm’s mobile trading system (MTS) or home trading system (HTS) without having to complete any separate pre-investment education or pay a minimum deposit. Just as with stock trading, as long as one holds a securities account, there are no restrictions on trading high-risk corporate bonds issued by struggling companies.

In reality, the risk of corporate insolvency is directly translating into losses for individual investors. The chain of defaults among major affiliates of the JoongAng Group (including JoongAng Ilbo and Contentre JoongAng) following JTBC’s default earlier this year, as well as the recent loss of the right to extend the maturity (EOD) and filing for rehabilitation proceedings by JR Global REIT, are clear examples of the risks in the retail bond market coming to the surface. There are even concerns in the market that the nightmare of the 2013 “Dongyang Group crisis”—in which individuals were left holding the bag for the bad bonds of capital-impaired affiliates, resulting in tens of thousands of victims—could be repeated.

Jeong Ho-cheol, a department head at the Citizens’ Coalition for Economic Justice, noted, “Since investing in non-investment-grade corporate bonds is fundamentally a ‘high-risk, high-return’ endeavor, investors should first carefully and thoroughly assess a company’s financial soundness themselves when signs such as a credit rating downgrade appear.” However, he pointed out, “The reality is that it is difficult for the average individual to fully grasp critical investment risks, such as complete capital erosion.”

Given this situation, there are growing calls to establish entry barriers for retail corporate bond investments, just as there are for stock investments. Specific proposals include making it mandatory to complete risk disclosure training when investing in bonds issued by distressed companies—such as those with negative equity—that fall below certain thresholds, or significantly raising the minimum deposit requirement to prevent blind investments.

Director Jeong emphasized, “Ultimately, we must significantly strengthen the disclosure obligations of the selling firms (securities companies) that distribute the bonds so that they actively inform investors of the risks in advance, and we must establish mandatory educational measures to ensure investors clearly understand these risks.”

Some quarters are even calling for a hardline approach, arguing that the issuance of corporate bonds by companies with negative equity should be blocked at the source, as was the case in the past. Prior to the 2012 amendment to the Commercial Act, corporate bond issuance limits were tied to equity capital, making it virtually impossible for companies in a state of negative equity to issue bonds. However, there is significant opposition to reintroducing this regulation, as it could shut off the very funding channels for struggling companies and actually accelerate their insolvency.

A bond market official, who requested anonymity, said, “Rather than blocking the issuance stage at the source, raising the barriers at the purchase stage so that investors can recognize and screen risks on their own is a more realistic alternative,” adding, “We need to consider measures such as minimum deposit requirements or mandatory training.”