It’s an ideal time to benefit from attractive interest rates and high yields
Companies are offering larger amounts of corporate bonds to retails than ever in the past five years, and now may be an ideal time to take advantage of the attractive interest rates and high yields, say industry analysts.
At the end of September, the interest rate for five-year corporate bonds with AAA ratings was 2.12%, higher than the government bond by 62 basis points at the same time (and also higher than the 1.88% coupon rate at the end of 2019). The BBB rating was 4.87%, 106 basis points higher than the government bond at the same time (and also higher than the 4.19% coupon rate at the end of 2019).
The credit spread, or difference in yield between government and corporate debentures, reflects that the default risk of corporate bond issuers (from the market’s viewpoint) has picked up significantly since mid-March, due to worries over the impact of Covid-19 and concerns over corporate bond defaults.
At the end of last year, the credit spread for five-year investment-grade bonds was 63 basis points (above government bonds) for the AAA rating and 298 basis points for the BBB rating bond.
“The credit spread between the government bond and corporate bond has dropped slightly from the peak in May but is still high,” said Tada Phutthidada, president of the Thai Bond Market Association (TBMA). “This is an opportunity for corporate bondholders to get a higher interest rate.”
Win Phromphaet, chief investment officer of Principal Asset Management Co, said Covid-19 has reduced demand for corporate bonds and many investors have relocated their investments from corporate bonds to deposits. Issuers therefore must offer a higher interest rate to make their bonds more attractive.
Current market sentiment for corporate bonds is better, but the price of corporate bond fundraising has not returned to pre-Covid levels.
“We can buy a good bond at a cheaper price with better returns but with the same quality of assets,” Mr Win said. He added a cautious note to buy bonds not strictly based on coupon rate, but also with an understanding of the origin of the higher return.
For example, perpetual bonds are popular among investors because they have a higher interest rate. Some investors don’t know that the perpetual bond is not a pure debt instrument, but rather a hybrid equity-debt instrument that carries higher risk.
Mr Tada of the TBMA says companies are now offering larger portions of their available bonds to the public.
The portion of corporate bonds distributed to the public via public offerings (POs) was larger at 27% of total corporate bonds issued during the first nine months of the year, compared with in the past four years, when POs contributed 10-17%.
The total worth of high-rated corporate bonds, with a rating of A- and higher, distributed by POs was 91.3 billion baht, almost equivalent to the total worth of corporate bonds with below A- ratings at 107 billion baht.
Although the amount and value of PO corporate bonds increased, some PO corporate bond issuances sold out in just one minute, leaving many disappointed.
DOWNSIDE OF RETAIL
In addition to the speed of internet connectivity, in cases where POs are sold via the internet or mobile apps, Mr Win said buying corporate bonds directly has some limitations.
Not all issuing bonds are offered to the public. The minimum buying value is normally up from 100,000 baht or 100 units at a par value of 1,000 baht each.
Moreover, retail investors also have less access to market data such as interest rates and trading price data, as well as limited access to information regarding issuing companies, and they may have less time for analysis.
More PO bonds could also lock up money for longer periods. Most retail investors hold bonds to maturity (at least three, five or seven years through each bond’s term) for a higher return above banks’ deposit interest rates.
Investors should reserve money for emergency cases because the retail secondary bond market is relatively dry.
If they have to sell their bonds before the maturity date and cannot find someone to repurchase, they will have to go to the bank and there would be some fees and the buying price would be calculated at the current market rate.
If the market interest rate is higher than the bond’s coupon rate, the selling price will be discounted and investors will get the money, not at the full amount of the principal.
Buying corporate bonds also limits retail investors’ ability to diversify risk.
As the minimum buying value is quite high, investors would buy only 5-6 issuing bonds for 1 million baht, which may not be enough. The bondholders’ financial status would be impacted if an unexpected problem occurs with issuers.
“There should be 40-60 bonds for proper diversification, and it will require millions in investment, which is quite difficult,” Mr Win said.
THE MUTUAL OPTION
Mutual funds are another good choice for investors who have limited money or time because they can diversify risks from investments with small amounts of money.
Investing through institutional investors also has many advantages in terms of accessibility to various debt instruments from a risk-free rate issued by government entities, both short-term and long-term. The bargaining power on price is another factor whereby institutions can share the benefits with their mutual fund holders, and the ability to analyse and monitor market information.
Fixed-income mutual funds also have more liquidity compared with bonds’ direct investment. However, Mr Win still suggests holding fixed-income funds for at least six or 12 months, except for money market funds which are “near-cash”, or 100% risk-free (as investments in government debt instruments) that give returns of about 0.5%, higher than bank saving deposit accounts.
Mr Win says fixed-income funds come in many types, classified by the term of the debt instrument, from short-term to medium/long-term, or by the investing purpose such as a flexible bond, high-yield bond, emerging bond or global bond.
The risk of each category depends on the investment term, the issuer of the debt instrument and the investment purpose of the fund.
“Bond markets have a special characteristic that, when crisis comes, the market liquidity will be dry temporarily,” Mr Win said. “Do not panic, it will make you lose from panic selling.”
With the industry’s latest experience with Covid-19, many fundholders redeemed fixed-income funds that made an impact on asset investment companies, then spread to industry for a short period, he said.
HOME OR ABROAD?
Therdsak Thaveetheeratham, executive vice-president of Asia Plus Securities, said investing in foreign bonds could get a higher return but in compensating for risk. Normally, fund managers will be diversifying investment in many countries. However, fundholders should consider the currency risk in whether they will select foreign/global bond funds that have a currency hedge.
“The market interest rate is likely relatively low for a year and could decrease once in the future,” Mr Therdsak said. “The higher return [above deposits] is an interesting choice and would be lower than equity returns, but the risk is also lower.”
For people prepared to take higher risks, the hybrid-equity would be another alternative, such as an equity-linked note or fixed coupon note.