Bond Spreads Research Articles

Risk Structure of Banks in Spain: Do BHCs Have Greater Cost of Debt?

Holding companies legally separate the assets and owners of a company creating a layer of liability protection. Theoretically, this feature lowers the risk attributable to holding companies, enabling them to offer lower-cost debts compared to stand-alone alternatives. However, no study has ever tested this hypothesis due to its technical and practical difficulties. Testing this hypothesis requires a separate classification of holding and stand-alone companies’ outstanding debts to compare their risk spreads, controlling the bonds’ risk ranking, maturities, and issue sizes. Further, a model is needed to make the callable bond spreads with unknown maturity dates comparable to non-callable bonds. This work is the first attempt to evaluate the risk spreads of stand-alone banks and bank holding companies in Spain by including all outstanding rated bonds offered by Spanish banks. In order to make callable bond spreads comparable with noncallable bond spreads, we obtained the option-adjusted spreads for the bonds using a lattice option-pricing model that treats the callable bonds as a bond with embedded options. We then regressed to option-adjusted spreads on control variables and ownership structure dummy to see if there exists a statistically and economically significant coefficient for the introduced dummy variable. We found that bank-holding company bonds have higher risk spreads compared to the stand-alone alternatives in Spain. This may be attributable to the characteristics of holding companies that introduce other risks that offset the gains obtained from the added layer of liability protection.

Asset purchases and sovereign bond spreads in the euro area during the pandemic

We analyse the impact of ECB asset purchases on sovereign bond spreads during the Covid-19 pandemic. Using an enhanced event study design, we trace the impact of asset purchases over time, distinguishing between announcements, expectations, and implementation effects. The analysis draws on a new granular cross-country dataset of the ECB’s asset purchases and market expectations. We find large announcement effects, particularly for countries with lower sovereign credit ratings. Expectations about the final size of ECB asset purchases (‘the stock’) and actually implemented net purchases (‘the flows’) affected sovereign spreads at the time of severe market stress with significant cross-country variations. Overall, the ECB’s asset purchases were highly effective in warding off risks of financial fragmentation in the euro area during the pandemic.

The Effect of Market Asset Returns, Economic Conditions, and Firm Fundamentals on Net Lease Capitalization Rates

This study fills a void in the literature by examining real estate capitalization rates for single-tenant net lease (STNL) properties. First, we examine cap rate variation in relation to market and firm-level fundamentals using individual transaction data in a multistage regression approach. Second, our single-tenant dataset, which allows us to control for characteristics such as industry and tenant credit ratings, gives us unique insight into not only the pricing of cap rates, but also their underlying drivers and their relationship to market fundamentals and returns on alternative assets. Using this unique dataset of more than 8,000 single-tenant net lease retail property transactions, we develop a quarterly cap rate index controlling for Metropolitan Statistical Area (MSA) and industry fixed effects, property and lease characteristics, and localized influences such as population density and household income. Third, we examine the effect of excess corporate bond spreads, excess stock returns, stock market indicators, firm financials, and economic and demographic indicators. Finally, we examine the effect on cap rates of MSA characteristics such as size, wealth, poverty, crime, gross domestic product, and growth. The findings show that, besides the systematic risk from stock and bond returns, national and metropolitan economic forces and firm fundamental factors explain variation in cap rates.

ESG rating confusion and bond spreads

This paper investigates the influence of ESG rating confusion on bond spreads, an area of growing importance in sustainable finance. Despite the recognition of ESG rating confusion, their effects on the bond market remain less explored. Leveraging a corporate bond pricing model, we reveal that ESG rating confusion widens the bond spread. Analyzing data from China, we find that both primary and secondary bond markets are affected, with the latter experiencing a more significant impact. Our study emphasizes the role of information asymmetry and investor preferences, outweighing the issuer’s financial position in driving these effects. Furthermore, we identify environmental and weighting inconsistencies as crucial sources of ESG rating confusion. The findings underscore the necessity of a standardized ESG rating system to enhance investor confidence and support ESG-related project financing. A cohesive rating approach among agencies correlates with narrower bond spreads, thereby fostering bond market efficiency and promoting ESG investment practices.

Geopolitical uncertainty and the cost of debt financing: the moderating role of information asymmetry

PurposeThis paper aims to study the impact of geopolitical uncertainty on corporate cost of debt and the moderating role of information asymmetry between creditors and borrowing firms.Design/methodology/approachThis study uses 5,223 firm-quarter observations on German-listed firms spanning 2010:Q1–2021:Q4. This study regresses the cost of debt financing on the geopolitical risk, accounting quality and other control variables. Information asymmetry is measured using the performance-matched Jones-model discretionary accrual and the stock bid-ask spread. It uses interaction terms to check if information asymmetry moderates the impact of geopolitical uncertainty on the cost of debts and control for the moderating role of business risk. For the sake of robustness check, it uses long-term cost of debt and bond spread as alternative dependent variables. In addition, this study executes instrumental variables regression and propension score matching to control for potential endogeneity problems.FindingsEstimation results show that geopolitical uncertainty exerts a positive impact on the cost of debt. This impact is found to be more important on the cost of long-term debts. Information asymmetry is found to exacerbate the positive impact of geopolitical risk on the cost of debt. These results are robust to the change of the dependent variable and to the mitigation of potential endogeneity. At high levels of information asymmetry, this impact is more important for firms belonging to “Transportation”, “Automobiles and auto parts”, “Chemicals”, “Industrial and commercial services”, “Software and IT services” and “Industrial goods” business sectors.Research limitations/implicationsGeopolitical uncertainty should be seriously considered when setting strategies for corporate financial management in Germany and similar economies that are directly exposed to geopolitical risks. Corporate managers should design a comprehensive set of corporate policies to improve their transparency and accountability during increasing uncertainty. Policymakers are required to implement innovative monetary and fiscal policies that take into consideration the heterogeneous impact of geopolitical uncertainty and information transparency in order to contain their incidence on German business sectors.Originality/valueDespite its relevance to corporate financing conditions, little is known about the impact of geopolitical uncertainty on the cost of debt financing. To the best of the authors’ knowledge, there is still no empirical evidence on how information asymmetry between creditors and borrowing firms shapes the impact of geopolitical uncertainty on the cost of debt. This paper tries to fill this gap by interacting two measures of information asymmetry with geopolitical uncertainty. In contrast with previous studies, this study shows that the impact of geopolitical uncertainty on the cost of debt is non-linear and heterogeneous. The results show that the impact of geopolitical uncertainty does not exert the same impact on the cost of debt instruments with different maturities. This impact is found to be heterogeneous across business sectors and to depend on the level of information asymmetry.

Eurozone government bond spreads: A tale of different ECB policy regimes

We aim to determine Eurozone sovereign bond spreads and the ECB’s influence through a generalised model. In a multidimensional structure we regress an extensive set of variables for different factors on spreads, and empirically identify the best-fit through a general-to-specific process. We cannot identify a satisfactory specification with macro fundamental factors. Different regimes in the spreads’ structure explains this. Spreads are after 2012/2013 well explained by market risk-based factors, and our specification is robust for earlier periods. When we add EMU-specific factors, it is shown that Target2 balances reduce spread as they increase convertibility risk costs until 2012/2013, and that the ECB’s asset purchases subsequently reduce spreads, especially in the periphery. The break between these two periods coincides with an alteration of policy over two sets of Presidencies: Duisenberg – Trichet in the first period and Draghi-Lagarde in the second. Either set has interpreted and implemented the mandate of the central bank in a very different way. While under Duisenberg-Trichet the ECB has only acted in the Eurozone money market, under Draghi-Lagarde the central bank has increasingly been involved in the capital market.

Corporate financing from shadow banking and bond credit spreads

This paper studies the impact of the scale of shadow banking financing of enterprises on the credit spreads of bonds. Using corporate bonds in China's capital markets, we find that the scale of funds incorporated by enterprises' shadow banking channels has a significant positive impact on the credit spreads of bonds. We further find that the region, property rights, and profitability of bond-issuing enterprises all have significant moderating effects on the above impact. Specifically, shadow bank financing positively impacts bond credit spreads for enterprises in the central and western regions, with weaker profitability and non-state-owned enterprises.

Insider selling and credit spread of corporate bonds

This paper investigates the impact of insider selling on credit spreads in the secondary market of corporate bonds. The data of listed corporate bonds with insider sale events from 2012 to 2021 are selected as the research sample. It is found that the greater the intensity of insider's holdings sale, the greater the credit spreads of corporate bonds in the secondary market; the mechanism test reveals that the more serious the company's unpredicted performance decline, the more pronounced the positive impact of insider's holdings sale on credit spreads; when analysts' attention increases, it correspondingly weakened the positive impact of insider's holdings sale on the credit spreads of corporate bonds.

Green bond spread effect of unconventional monetary policy: Evidence from China

The development of green bond market is of great significance to the low-carbon transformation of China’s economy. However, green bond financing costs have remained high. The People’s Bank of China has guided the market to actively participate in green bond investment and financing activities by including green bonds in the scope of qualified collateral for monetary policy instruments. Against this backdrop, the role of unconventional monetary policy in reducing the cost of green financing is a critical topic being discussed in academia. In this study, we examine the cost impact of unconventional monetary policy on green financing, particularly green bonds. Specifically, using bond market data from 2016 to 2020, we construct a difference-in-difference (DID) model to empirically test the effect of China’s unconventional monetary policy on the financing cost of green bonds. The results indicate that unconventional monetary policy reduces the trade spread of green bonds compared with non-green bonds in the secondary market. However, the effect on the spreads of primary market green bonds is insignificant. Furthermore, through sub-sample tests based on ownership and bond ratings, this study finds that unconventional monetary policy has a more pronounced impact on the transaction spreads of AA+ and AA rated green bonds, green bonds issued by state-owned enterprises, large-scale green bonds, as well as long-term green bonds in the secondary market. Based on the above conclusions, we put forward policy suggestions to improve the top-level design of green bond market and activate the enthusiasm of bond trading from two aspects: expanding the scope of green bond collateral of central bank lending programs and enhancing the issuance advantages of green bond in the primary market.

Government Bond Spreads in the Euro Area

Abstract In the euro area, the sovereign debts of all Member States aspire to be equally safe but investors persistently discriminate between country debts. Empirically, the evidence suggests a clear role of ‘fundamentals’ in explaining government bond spreads between euro area countries. In particular, the level of indebtedness is found to weigh strongly on spreads in a non-linear fashion. Fiscal factors may however be tempered, or conversely exacerbated, by other factors including the external position, potential growth, and institutional quality. Notwithstanding other pressing policy priorities such as the energy transition and climate change, policy reforms aimed at credibly ensuring sustainable national debts therefore remain central to the governance equilibrium of the euro area.

Does carbon trading affect the bond spread of high-carbon enterprises?- Evidence from China

Carbon trading is widely used as a carbon finance instrument to promote green transformation. This paper focuses on carbon trading's impact on the bond spread for high-carbon enterprises. Using variation in carbon trading access due to pilot policies in China, we find that bonds issued by high-carbon enterprises participating in the carbon trading pilots have lower spreads. Furthermore, the results suggest that carbon trading reduces bond spreads by encouraging high-carbon enterprises to improve their environmental performance. Another channel is the information asymmetry between bondholders and enterprises. More active carbon markets provide investors with more information about enterprises' motivations for reducing carbon emissions, leading to a greater reduction in bond spreads. In addition, the impact of carbon trading is more significant in local SOEs, high-innovation enterprises, and longer-term bonds. Our research helps us understand the importance of carbon trading in achieving a low-carbon economy.

How Do Financial Market Outcomes Affect Gambling?

A large literature in behavioral finance explores how gambling sentiments influences trading in stocks. This paper considers the reverse phenomena; the impact of financial market outcomes on aggregate gambling expenditures. We expect the wealth effect of higher realized stock returns will increase gambling (entertainment good). Similarly, we expect rising volatility will attract gamblers to equity markets seeking thrill and skewed payouts. Utilizing novel horse wagering data (1934–2020), we study the impact of these forces on gambling expenditures. Using corporate bond spreads as a proxy for business cycles, we find that, in addition to financial market outcomes, price of wagering, incomes, and availability of competing betting products are important drivers of gambling. We also find that, ceteris paribus, gambling rises during recessions. Our findings will be of interest to policy makers and the finance industry, particularly as day trading, sports betting, online casinos, and other gambling gains broad public acceptance.

Pricing of project finance bonds: A comparative analysis of primary market spreads

This paper provides a comparative analysis of project finance (PF) and traditional corporate finance (CF) bond spreads and pricing. Using a cross-section of 47,196 bonds issued worldwide in the 1993–2020 period, we show that PF and CF bonds are differently priced, PF bonds have higher spreads than comparable CF bonds, and although ratings are the most important pricing determinant for PF and CF bonds at issuance, investors rely on other contractual, macroeconomic, and firms' characteristics beyond these ratings. Our results do not support the hypothesis of PF transactions as mechanisms of reducing sponsoring firms' funding costs: the cost of borrowing affects financing choices and PF transactions' weighted average spread is higher than that of comparable CF bond deals. We also find that economies of scale, risk management, and information asymmetry arguments affect sponsoring firms' choice between PF and CF transactions.

Determinants of government bond spreads in European transition economies and implications for small and medium enterprises

Given the need for transition economies to finance some of the investment required for development through borrowing, this paper empirically examines the determinants of government bond spreads, focusing on institutional quality as a contextual dimension. The literature generally assumes that market assessments of sovereign risk - i.e., the probability of default - and hence the cost of sovereign borrowing over the risk-free rate are based on the borrower’s macroeconomic fundamentals, solvency, and liquidity indicators related to fiscal and financial variables, and indicators of external financial market volatility. Using fixed effect estimation, our findings suggest that government bond spreads in European transition economies are sensitive to domestic macroeconomic fundamentals and global financial market volatility. From macroeconomic fundamentals, fiscal deficit levels, inflation rates, and countries’ effective exchange rates emerge as the leading indicators determining bond spreads over the observed period. Moreover, our results suggest that financial markets consider the quality of institutions when assessing default probabilities; hence, the potential risks arising from the quality of institutions are factored into the cost of sovereign borrowing. These results are robust to various extensions and robustness tests.

Investigating the muti-scaling properties and connectedness of the sovereign bond yields: Hurst exponent and network analysis approach

Using daily yield data of 14 sovereign bond markets from emerging and developed economies from July 10, 2000, to July 10, 2022, we examine their scaling properties using generalized Hurst exponent and spectral density analysis and investigate the connectedness based on a network analysis approach. We consider the yields of 2-year and 10-year bond yields to investigate the scaling properties for short- and long-term sovereign bonds. This selection also allows us to examine sovereign bond spreads with respect to the USA. We also use regularized partial correlation network analysis to connect different countries in communities based on yields. We find that the scaling behavior of the bond yields for both terms fits well using the Hurst exponent and spectral analysis confirms this finding. Moreover, we also find that even though bonds in both cohorts show anti-persistent behavior except that of the USA, the developed economies' bond yields are relatively less anti-persistent as compared to those of emerging economies. The networks of both the 2-year and 10-year yields indicate community formation in various countries which provides diversification benefits to the investors. Most of the emerging countries are classified into one community in the long-tenure bonds as well but this concentration is more evident in the short-tenure bonds.

The Announcement Effect of Monetary Policy on the Corporate Bond Markets

This study investigates the impact of the central bank’s monetary policy announcements on the perceptions of yield spread in corporate bond markets under the event of extreme events. These results highlight that the coronavirus pandemic has caused a market panic in the global economy. This caused investors to withdraw their money from bond markets, which caused a liquidity crisis in bond markets. The Fed announcements caused statistically significant tightening on US and global investment grades and high-yield corporate bond spreads. The Euro investment grade and high-yield corporate bond spread narrowed when the Fed took additional actions to provide more funds and expanded the buying scope to support market liquidity. These results suggest that forward guidance that emphasizes the Fed’s monetary policy causes stronger information effects.

Borrowing Costs after Sovereign Debt Relief

Can debt moratoria help countries weather negative shocks? We exploit the Debt Service Suspension Initiative (DSSI) to study the bond market effects of deferring official debt repayments. Using daily data on sovereign bond spreads and synthetic control methods, we show that countries eligible for official debt relief experience a larger decline in borrowing costs compared to similar, ineligible countries. This decline is stronger for countries that receive a larger relief, suggesting that the effect works through liquidity provision. By contrast, the results do not support the concern that official debt relief could generate stigma on financial markets. (JEL F34, G12, H63, O16)

More than Words: Twitter Chatter and Financial Market Sentiment

We build a new measure of credit and financial market sentiment using Natural Language Processing on Twitter data. We find that the Twitter Financial Sentiment Index (TFSI) correlates highly with corporate bond spreads and other price- and survey-based measures of financial conditions. We document that overnight Twitter financial sentiment helps predict next day stock market returns. Most notably, we show that the index contains information that helps forecast changes in the U.S. monetary policy stance: a deterioration in Twitter financial sentiment the day ahead of an FOMC statement release predicts the size of restrictive monetary policy shocks. Finally, we document that sentiment worsens in response to an unexpected tightening of monetary policy.

Government debt deleveraging in the EMU

We build a Two-Country Open-Economy New-Keynesian DSGE model of a Currency Union, with a debt-elastic government bond spread and incomplete international financial markets, to study the e ects of government debt deleveraging. We evaluate the stabilization properties and welfare implications of di erent deleveraging schemes and instruments, under a range of alternative shocks and under alternative scenarios for fiscal policy coordination, bringing to policy conclusions for the proper government debt management in a Currency Union. We find that: a) coordinating on the net exports gap and consolidating budget constraints across countries when deleveraging provides more stabilization, b) taxes are a better instrument for deleveraging compared to government consumption or transfers, c) by backloading the deleveraging process one can achieve greater stabilization over time, d) deleveraging government debt increases the volatility and persistence of the economy after other shocks. Our policy prescriptions for the Eurozone are to reduce government debt more gradually over time and less during recessions, to do so using distortionary taxes, while concentrating on reducing international demand imbalances and maybe creating some form of fiscal union.

Practical Applications of Doing Well While Doing Good: The Elusive Quest for Green Bond Returns

In <ext-link><bold><italic>Doing Well While Doing Good: The Elusive Quest for Green Bond Returns</italic></bold></ext-link>, from the Spring 2023 issue of <bold><italic>The Journal of Impact and ESG Investing</italic></bold>, <bold>Juliusz Jablecki</bold>, of <bold>Narodowy Bank Polski</bold> and the <bold>University of Warsaw</bold>, finds that while the green bond label tends to be associated with slightly lower bond spreads, it does not significantly affect overall performance. Credit rating, duration, and industry sector membership have a much stronger influence. Additionally, green bonds do not outperform nongreen bonds during market sell-offs—in fact, they had worse drawdowns in the sell-off of March 2020. However, while green bonds by themselves do not offer a return premium, investors can use them in a data-driven active portfolio management strategy to deliver above-market returns.