Fluctuations in credit spreads serve as an indicator of investor sentiment and capital flows in the corporate bond market. “Credit Signal” provides an intuitive analysis of the market’s overall trends and context, focusing on weekly changes in credit spreads. <Editor’s Note>

[Edaily Marketin Reporter LEE GEON-EOM ] The appeal of corporate bonds as a funding source is resurging. While commercial paper (CP) rates have been rising for over a month and certificate of deposit (CD) rates—a benchmark for corporate loan rates—have also increased, corporate bond yields have fallen in line with Treasury bond yields, rapidly narrowing the interest rate gap among these three funding instruments. This means that corporate bonds, which had previously been overshadowed by CP and bank loans, are re-emerging as an alternative, particularly for high-quality companies.

Market participants are increasingly weighing the possibility that, once the issuance market reopens early next year, funding demand from high-quality companies will shift toward corporate bonds. However, some observers note that, given the approaching year-end slow season and the fact that barriers to entry remain high for non-investment-grade companies, it is unlikely that this will lead to a broad recovery in the corporate bond market.

According to the Bond Information Center of the Korea Financial Investment Association on the 6th, the yield on 3-year unsecured “AA-” rated corporate bonds stood at 4.358% as of the previous day, the lowest level since June 17 (4.345%). This represents a decline of 43 basis points (1 bp = 0.01 percentage point) from the year’s high of 4.788% recorded on September 28.

On the same day, the yield spread between “AA-” rated corporate bonds and 91-day commercial paper (CP) narrowed to 52.8 basis points, the narrowest since February 27 (52.7 basis points). This is about one-third of the year’s peak of 150.3 basis points recorded on July 24.

This narrowing of the spread is due to corporate bond yields falling in line with the strength of government bonds, while CP yields rose in anticipation of further benchmark rate hikes. Since September 28, CP yields have risen by 46 basis points, while ‘AA-’ rated corporate bond yields have fallen by 43 basis points. CP rates, which had been rising for 29 consecutive trading days, closed flat at 3.83% on the 5th; however, they remained 16.1 basis points higher than the 3-year government bond yield, marking the widest spread since mid-January.

Corporate bonds have also become more competitive in terms of interest rates when compared to bank loans. According to the Bank of Korea, as of the end of September, the interest rate on loans to large corporations stood at 4.37% per annum, 29 basis points lower than the average yield on “AA-” rated corporate bonds (4.66%) for the same month. Currently, corporate bond yields have fallen to a level below this loan rate.

Conversely, the 91-day CD rate—a key benchmark for corporate floating-rate loans—rose by 12 basis points from 3.22% on September 28 to 3.34%, raising the possibility that loan rates have actually increased since October.

A credit analyst at a securities firm stated, “The decline in corporate bond issuance this year was due to corporate bond yields being significantly higher than those of commercial paper, but that gap has narrowed considerably now,” adding, “If the yield spread isn’t large, corporate bond issuance will increase, but since the end of the year is the off-season for corporate bonds, we won’t see an immediate increase.”

Given this situation, expectations for the “year-end effect” early next year are rising. Since November and December are the off-season for corporate bonds and coincide with institutional investors’ year-end book-closing periods, observers predict that an expansion in issuance will likely begin in earnest in January and February, when funds flood into demand forecasts at the start of the year.

Some analysts also suggest that the trend may differ from this year’s. At the beginning of this year, the corporate bond market contracted, resulting in a “year-start effect” that was less pronounced than in previous years. According to the Financial Supervisory Service’s electronic disclosure system, the issuance volume of publicly offered corporate bonds in January and February of this year totaled 16.1007 trillion won, a 35.9% decrease from the 25.1160 trillion won recorded in the same period last year. During the same period, the amount of funds participating in bookbuilding also fell by 42.6% to 52.2255 trillion won, compared to 91.0570 trillion won in the corresponding period last year.

In particular, there are expectations that corporate bond issuance could increase significantly, centered on high-quality companies, as the issuance market opens next year with corporate bonds becoming more competitive in terms of interest rates compared to commercial paper (CP) and bank loans.

Demand conditions are also supportive. Analysts note that funds are flowing into bond funds amid the perception that interest rates have peaked, and that the burden of issuing bank bonds at year-end is not expected to be significant.

A bond portfolio manager at an asset management firm stated, “Bond investment conditions are improving as Treasury yields fall and the credit market turns,” adding, “Since banks have been issuing bonds proactively, bank bond issuance is expected to decline toward year-end, which should improve the supply-demand balance for corporate bonds.”

However, sub-investment-grade bonds are still considered to be neglected. The yield on “BBB-” rated corporate bonds stood at 10.185% on the 5th, remaining in the 10% range. As of September, this yield was 584 basis points higher than the lending rate for small and medium-sized enterprises, making corporate bonds a difficult option for sub-investment-grade companies. Observers point out that even if there is a shift toward corporate bonds, it is likely to be limited to investment-grade issues.

Meanwhile, corporate bond spreads (the difference in yields between government bonds and corporate bonds) continued to trade within a narrow range. On the 5th, the spread between the 3-year government bond (3.669%) and “AA-” rated corporate bonds stood at 68.9 basis points, remaining within the 65.9–72.3 basis point range since July. The spread for “BBB-” rated corporate bonds stood at 651.6 basis points, remaining at the upper end of the range (645.1–651.9 basis points) for the same period.