With yields in many European government bond markets close to record lows, even investors who typically stick to these low-risk bonds are increasingly willing to buy lower-rated corporate debt, chasing extra yield to boost portfolio returns.
That is helping to make corporate bonds some of the best-performing new issues this year, narrowing the yield gap between corporate and government debt to levels which should make borrowing an increasingly attractive option for companies looking to fund future expansion.
The problem for the investment bankers whose job it is to act as matchmakers between lenders and prospective borrowers is that corporate treasurers are a conservative bunch. They are more accustomed to knocking on the door of their bank manager when they need to borrow money, rather than turning to the international bond market to pounce on cheap funding opportunities.
"There is a big weight of investment money out there desperate to be invested, and looking for anything that gives a good yield," says Arthur Burgess, treasurer at BG, formerly British Gas. "Spreads have been squeezed tighter, so the borrower is getting good value."
Of the $258bn (pounds 155bn) of new bonds sold on the international market this year, less than 19 per cent has come from companies or utilities, according to data compiled by Capital Data Bondware. Banks and other financial institutions are the biggest borrowers, accounting for more than 60 per cent of new issues, with sovereign and supranational borrowers making up the rest.
The mix of borrowers is little changed from last year, when a record $679bn of bonds were sold. Even though investors have been increasing the percentage of non-government debt they hold, companies are not making the most of what bankers say is a golden opportunity.
Tim Knowles, chief strategist at Fleming Investment Management, says Fleming has been putting more of the $8bn it manages into corporate debt in recent months, an investment strategy often called "moving down the credit curve". Fleming clients are becoming more interested in adding new market types to their portfolios, Mr Knowles says.
European companies have typically relied on bank finance to meet funding needs, and with banks awash with funds for lending, borrowing costs in the loan market have stayed low.
Borrowers can certainly get cheaper funds in the bond market, relative to government bond yields, than they could two years ago. Bloomberg analysis shows five-year deutschmark bonds sold by A-rated borrowers today yield about 26 basis points more than German bunds, down from 48 basis points two years ago. In the sterling market, the gap is down to 70 basis points from 80 two years ago.
Companies that have tapped the bond market have met with a warm response from yield-hungry investors. On 8 April, BT sold $1bn of five-year bonds yielding 15 basis points more than US Treasuries. Nine days later, it was able to sell a further $500m of bonds at a yield just 12 basis points higher than Treasuries.
Last week Porsche, the German sports car maker, borrowed for the first time on the international bond market, with Dm200m (pounds 71m) of 4.875 per cent five-year bonds, managed by Deutsche Morgan Grenfell.
The bond went on sale yielding 4.91 per cent, 14 basis points more than German government debt. The level of demand from investors was so strong, however, that the issue was yielding the same as government securities just a few hours after it went on sale.
If investors are willing to lend money to the maker of the new Boxster sports car at the same interest rate as they charge the government of the largest economy in Europe, clearly there is a wide open market opportunity for other would-be borrowers. "I think corporates are beginning to wake up," says Anthony Barklam, a director at Merrill Lynch Capital Markets. "When you see how flat the yield curve is, and with corporate spreads at the tightest they've been for a very long time, it's a bit of a no- brainer."
The interest rate futures market is anticipating that UK base interest rates, currently at 6 per cent, will rise to 7.25 per cent by the middle of next year. With 30-year UK government bonds yielding 7.57 per cent, just 15 basis points higher than 10-year yields, "you don't pay a great premium for moving longer," says Mr Burgess at BG.
BG has not been able to sell bonds since June 1995, when it offered new 30-year bonds in exchange for existing 50-year debt. As well as the name change, company officials have been busy re-organising the company, which led to the gas supply business splitting off to form a new company, Centrica, while the gas pipeline network became a company called Trustco, owned by BG.
The UK Monopolies and Mergers Commission is scheduled to publish a report this month on whether the company has done enough to free up competition in the gas industry. BG's credit rating, AA- at Standard & Poor's and three notches lower at A3 at Moody's, is on review for further downgrades until the report is published.
Mr Burgess, known as one of the most innovative corporate treasurers around, says that has prevented him from taking advantage of current borrowing conditions.
"If I had had a free hand in the past two years, I think we would have been in the market at some point," Mr Burgess says. "We do recognise that the middle to end of the yield curve is good value." Copyright: IOS & BloombergReuse content