Will the Strengthening Baby Steps Bring Warmth to Corporate Bonds?

Corporate Bond Sentiment Gauge
Credit Spread Widens to Largest in Over 13 Years

FOMC Expected to Raise Benchmark Rate by 0.25%p
Worst Sentiment, Hope for Warmth in Corporate Bond Market

Experts Highlight Need for Active Liquidity Supply from Policy Banks

[Asia Economy Reporter Minji Lee] As expectations grow that the Bank of Korea will implement a baby step (raising the base interest rate by 0.25 percentage points at a time) at the Monetary Policy Committee meeting scheduled for the 24th, attention is focused on whether warmth can spread to the corporate bond market. Although bond yields generally declined last month due to the government's short-term financial market stabilization measures, investor sentiment toward corporate bonds is heading toward its worst.

According to the Seoul bond market on the 17th, the credit spread (the difference between the 3-year corporate bond yield with a credit rating of 'AA-' and the 3-year government bond yield), which reflects institutional investors' sentiment toward corporate bonds as of the previous day, rose to 165 basis points (1bp=0.01 percentage points), the highest level this year. This is the highest level in over 13 years since it recorded 171bp on April 24, 2009, during the global financial crisis.

As the government announced liquidity supply policies consecutively from last month to stabilize the unsettled bond market, corporate bond yields have slightly declined. One factor contributing to the rise in yields was the reduction in Korea Electric Power Corporation (KEPCO) bond issuance. On the 15th, the 2-year KEPCO bond issuance yield (420 billion KRW) recorded 5.7%, down from 5.9% earlier this month. However, since the decline in government bond yields was relatively larger, the credit spread continued to rise. This polarization phenomenon has become more pronounced, where institutional investors buy only stable government bonds regardless of how high companies offer yields to issue corporate bonds.

The Bank of Korea's shift in the pace of rate hikes following the U.S. October CPI (Consumer Price Index) announcement is expected to limit the rise in spreads. After the U.S. Federal Reserve decided on a giant step (a 75bp hike in the base rate) at the Federal Open Market Committee (FOMC) earlier this month, the possibility of the Bank of Korea taking a big step (a 50bp hike) to narrow the interest rate gap emerged. However, due to the slowdown in U.S. inflation and concerns over the domestic economy, it is highly likely that a baby step will be decided at the Monetary Policy Committee meeting on the 24th. Recently, Seoyoung Kyung, a member of the Bank of Korea's Monetary Policy Committee, also mentioned that "the widening of the interest rate inversion is inevitable, and blindly following it is difficult," emphasizing the need to adjust the pace of rate hikes.

Kim Sangman, a researcher at Hana Securities, explained, "It is a time to approach credit bonds from a buying perspective, and if the rising trend in interest rates stops, next year is likely to be the year of bonds." He added, "Once a market consensus on the calming of interest rates is formed, a reversal is inevitable, and responding at that time would be too late." If changes in monetary policy are detected, investor sentiment is expected to expand mainly toward high-grade corporate bonds that have both creditworthiness and attractive yields.

However, there are also forecasts that even if there is a change in interest rate policy, it will be difficult to completely ease market anxiety. Although expectations for financial authorities' market safety measures and interest rate pace adjustments have been introduced, smooth issuance is only occurring mainly in credits with top-tier credit ratings such as public and corporate bonds and special bank bonds (teugeunchae). There is a judgment that more active liquidity support measures are needed. Kim Gimyung, a researcher at Korea Investment & Securities, argued, "Since market liquidity is still dry, policy banks should secure funds by purchasing special bank bonds from commercial banks and take the lead in easing funding shortages." He also stated, "Public investment institutions need to increase purchases of real estate project financing asset-backed commercial paper (PF-ABCP) to help spread warmth downward within the bond market."

This content was produced with the assistance of AI translation services.