BERLIN: More than two-thirds of euro denominated corporate bonds rated as investment grade now yield less than 1 per cent as borrowing costs continue to tumble following the launch of quantitative easing in the eurozone.
The European Central Bank’s bond buying has driven yields on government debt down to record lows, leading to a growing pool of negative-yielding sovereign debt, which has forced many investors into the corporate bond market.
The yields are getting to very worrying levels for investors and even frustrating levels because they have to decide which risks are worth taking,” said Thibault Colle, a strategist at UBS.
Half of euro BB rated bonds — assets deemed highly risky by rating agencies — now yield less than 2 per cent, according to data from Markit and UBS, highlighting how growing demand for returns has pushed the yields of even the riskiest assets down to historic lows.
As bond yields fall further, companies are pushing boundaries in terms of volume, maturity and coupons, while investors are being forced to rethink strategies and snap up riskier assets in the search for yield.
The record low yields on corporate debt have made the eurozone highly attractive to borrowers, and debt issuance increased dramatically in the first quarter. Investment grade issuance jumped 41 per cent year on year to €97bn, according to UBS.
Eurozone policy makers hope that driving down borrowing costs will encourage investment and stimulate growth in the trading bloc.
“There’s been a big rally in that space and people have bought into it,” said Simon Colvin, vice-president of Markit. “It’s all been driven by government yields falling. It’s definitely a symptom of QE. It shows that it’s working and investors have taken note and they don’t want to bet against that trend,” he added.
Companies have taken advantage of growing investor appetite for higher yielding assets, and lower rated firms have rushed to the market, driving volumes up significantly.
High-yield corporate bond issuance is up 73 per cent year on year to €30bn, according to UBS. “In a way, the HY (high yield) frontier has been redrawn from between BBB and BB to between BB and B,” said Mr Colle.
But the hunt for yield means investors are being forced to take on more risk to get the same returns, and that brings problems of its own. “The problem with single Bs is there’s a lot of unproven businesses in there. Our view is there could be negative surprises this year,” said Mr Colle.
Companies have also turned the growing demand for bonds to their advantage by lengthening maturities, pushing the average to a record length of more than nine years in the first quarter.
“The problem for next year is you’re going to start the year with sovereign bond yields at zero and corporate bond spreads at very tight levels — it will become a big deal for investors. The asset class is really becoming juiced out,” said Mr Colle.
As well as buying lower rated bonds, the hunt for yield has driven investors to seek hybrids — bonds that combine features of debt and equity — and issuance soared to a record high in the first quarter. “It’s a consensus long, everybody loves hybrids,” said Mr Colle.
So far this year corporate hybrids have returned 3.17 per cent to investors, surpassing the 1.42 per cent return of investment grade corporate bonds as well as the 2.97 per cent returns on high-yield bonds.
