Corporate bond markets are growing in terms of size and importance to the real economy, and are extending their global nature, according to
Since the onset of the crisis, corporate bond markets are beginning to fill a gap left by bank and long-term/infrastructure financing, and are showing potential for servicing small medium enterprises (SMEs).
Corporate bond markets have almost tripled in size since 2000. While financial firms in developed markets are deleveraging, non-financial firms are tapping the corporate bond markets in growing numbers. Bank lending to non-financials is weak in the US and Europe, suggesting a move away from bank lending towards corporate bond financing in some developed markets.
The volume of corporate bond issuances has increased steadily, reaching almost $3.2 trillion in 2013, compared to $0.9 trillion in 2000.
In the last 13 years, 27 new economies have recorded corporate bond issuances, most of these emerging markets. In fact emerging markets accounted for 30% of recorded issuance volume in 2013 vs just 5% in 2000.
Interestingly, a growing number of emerging market issuances are ‘puttable’ (the bondholder can ask to reclaim their principal before the maturity date). In 2013, issuances of bonds with a put option in emerging markets reached $47 billion, compared to issuance of $1 billion in developed markets. If this upward trend continues, it could signal increasing volatility in financing of emerging market firms.
Long-term infrastructure projects and real estate property developers are also are raising financing on corporate bond markets. For example, between 2000 and 2013, $171 billion worth of infrastructure bonds were issued, the majority issued post-2007.
Meanwhile, a search for yield is driving investment in high yielding corporate bond markets: High yield issuances have increased from $72 billion in 2000 to $550 billion in 2013. Issuance of Payment-in-Kind bonds reached $18 billion in 2013, higher than pre-crisis levels. Contingent Capital bonds (e.g. CoCos and write-down bonds) reached $15 billion in 2013.
The report notes that before the crisis, corporate bond markets were awash with ‘phantom liquidity’ that has since decreased, creating higher liquidity risk for investors.
This ‘phantom liquidity’ refers to liquidity provided to the market on the back of potentially systemically risky practices. For example, before the crisis dealers could bundle illiquid bonds into structured debt products such as Collateral Debt Obligations, a move that helped amplify the financial crisis. In other words, phantom liquidity was offered to the secondary market, but at the expense of financial stability.
In the wake of the crisis, new regulation and internal bank controls curtailed the issuance of these structured debt products. Combined with the introduction of more transparency, this has made dealer banks step back from their market-making role, causing a reduction in phantom liquidity. Bond investors now face higher liquidity risk as a result.
Eventually, greater liquidity risk will be reflected in higher yields and push up the cost of borrowing on corporate bond markets. In this context, the report notes, electronic trading platforms could offer a channel for reducing liquidity risk.