Europe’s growing league of small corporate bond issuers

The global rise of bond financing is of particular interest in Europe, as its financial sector has always been more bank-based than in the United States. In the euro area since 2008, overall market financing has been growing significantly faster than bank lending. Policymakers have supported the increase in bond financing because it could help keep firms away from pushing the banking sector through diversification of sources of funds.

Historically, only the largest companies were included in the European bond market. But the entry of small issuers is increasing. These new players are seen as the key to achieving a transition from a larger bank-based system to more capital market funding. To fully understand these changes in the state of the game in the bond market, we need to go beyond the overall data and dig into the features of this new arrival. We need to understand how they compare to historical issuers, we need a clear view of who buys their bonds, and how they can be affected by market disruptions.

To this end, Darmouni and Papoutsi (2022), we have created a large panel dataset using two decades of micro-data. We used it to study new players in the European corporate bond market: small, private, and rated issuers entering the market in recent years.

Focus on small and first time bond issuers

Using micro-data enables us to look beyond our overall growth and uncover firm-level patterns. This is important because, when these new issuers move to increased capital market funds, they may ‘disappear’ in the overall bond-market volume or spread. Such market indicators are large, universal and driven by rate providers. Our dataset looks at the details of the debt structure and balance sheet over the past 20 years.

Although bank lending is still responsible for the largest share of corporate lending, eurozone firms have increasingly resorted to bond financing, especially after the 2008-09 global financial crisis. Corporate bonds have risen significantly by about 30% compared to bank borrowings by euro area firms, up from about 15% in mid-2008 (Cappiello et al. 2021).

We focus on new issuers. This is justified by the number of companies entering the bond market. About 10% of issuers each year were new entrants to the market and access has accelerated in recent years.

Figure 1 The number of companies entering the euro area corporate bond market each year

Comments: This figure represents the total number of new public and private issuers by the year of entry from 2010 to 2021. The sample includes all firms with zero non-zero bond arrears between 2018 and 2021. Each year, new issuers are defined as companies that issue bonds for the first time that year. The first year of issue was obtained by combining data from the Capital IQ and the Centralized Securities Database (CSDB): this corresponds to the first issue year identifiable for any subsidiary or branch within the group structure of the firms in the sample. That is, for any group, we set the issue date – either marked using the variable date of issue directly from the CSDB or the first year with a non-zero bond volume outstanding in capital IQ – which corresponds to the first issue date across all entities. The team goes. Bonds in capital IQ are matched to the sum of all senior bonds, subordinate bonds and commercial paper. In CSDB, bonds are matched with debt securities. Source: Darmuni and Papautsi (2022)

These new issuers differ from the historic European bond issuers. They tend to be significantly smaller and mostly private firms. Most ratingless: They do not have a credit rating from one of the three largest rating agencies. This is in contrast to the United States, where rating coverage is much broader.

Who buys bonds from small and first-time issuers?

It is important to know who is buying which bonds in Europe, as this could shed light on the potential fragility of the credit supply. While traditional ‘buy-and-hold’ bond investors such as pension funds and insurance companies have a long-term horizon (Baker and Benmelac 2021), other bond investors such as investment funds may be responsible for fire sales and price displacement at bad times (Goldstein et al. 2017, Falato et al. 2021).

Figure 2 Euro zone non-financial corporate bond investor formation

Comments: This statistic represents the investor structure of debt securities issued by firms in our sample at the end of 2019. The rest of the world is estimated to be the remaining amount held by selected investors in the eurozone Due to space constraints, the ‘Insurance and Pension Fund’ in the legend is an acronym for ‘Insurance Corporation and Pension Fund’. The sources of these data are ECB Securities Holdings Statistics by Sector and ECB Securities Holdings Statistics of Eurosystem. Sources: Darmouni and Papoutsi (2022).

Figure 2 shows that conventional ‘buy-and-hold’ investors occupied a large portion of the total in 2019. Insurance companies and pension funds account for about a quarter of the total and the ECB, plus 10%. Investment funds cover less than 25% and financial institutions and households 15%, while the rest of the world covers the final 26%.

Looking outside the overall data, Figure 3 considers the issuer with different ratings and sizes and plots investor composition at the end of 2019. What initially stands out is that, for the largest and investment-grade rate issuers, the composition of the investor is significantly similar to the aggregate. . For example, insurance companies and pension funds hold about a quarter and the ECB 10%. This is not surprising, since the largest companies are so large that they run entirely on overall patterns.

Figure 3 The structure of the investor according to the rating and size of the firm

Comments: This statistic represents the investor composition of debt securities issued by firms in our sample at the end of 2019, divided by size and rating category. Samples are divided using solid resources as estimates of firm size. The firm’s assets increase with each quarter (i.e. the first quarter includes companies with the lowest level of total assets in the sample, while the fourth-fourth has the highest level of total assets). The rating categories are consistent with ‘Investment Grade’ (IG) if the firm’s rating is above BBB +, if the rating is between BBB- and BBB +, ‘High Yield’ (HY) if the rating is below BBB +, and ‘Unrated’ ( NR) if the firm is not rated. The rest of the world is estimated as the remaining amount held by selected investors in the euro area. ECB Securities Holdings Statistics by Sector and ECB Securities Holdings Statistics of Eurosystem. Issuers’ ratings were found to be broken after collecting data on firm and bond ratings issued by each firm from Standard & Poor’s, Moody’s or Fitch from the CSDB rating database. Ratings are dynamic over time, meaning they are calculated every month After collecting data on the size of the assets of all the companies in the sample from Orbis, Capital IQ and RIAD, the size breakdown of the issuers was found. Quartiles are static, meaning they are calculated for 2019 asset values ​​৷ Investors’ shares are expressed in 7 percent Sources: Darmouni and Papoutsi (2022).

But who holds the bonds issued by new players in the European bond market? Based on Figure 3, investor compositions for small and non-rated issuers are strikingly different. For example, shares of ‘buy-and-hold’ investors (ECBs, insurance companies, pension funds) are only 5% lower for the smallest issuers, or about 30 percentage points lower than the total.

We see that banks buy an unequal share of bonds issued by small companies. Traditional banks hold bonds of 20% of the smallest and aerated issuers in our sample. This is noteworthy, because access to the bond market is often seen as a way to help companies reduce their reliance on banks. The relatively large share of banks holding corporate bonds suggests that the bank-dependence of this part of the issuers may have been reduced. This fact also raises potential concerns about the stability of the credit supply of these firms: banks are often perceived to face balance sheet effects in recessions (Baker and Benmalek 2021). To better understand this, we would like to study the effects of the period of turmoil on the credit market in the spring of 2020.

Crisis in the credit market in the spring of 2020

In March 2020, when the COVID-19 epidemic began, European corporate bond markets were in turmoil. An investor closing sale increases the cost of borrowing for firms and dries up new issues. The ECB had to intervene to restore market functionality and allow companies to borrow in the bond market again.

There is a concern that the ‘buy-end-hold’ of small firms may be unevenly affected by the sell-off of investors with a small share of investors. However, our study paints a different picture: it seems that the pullback of bond investors was initially the goal of the largest, rate issuers. Insurers, pension funds, mutual funds and banks have reduced their holdings of bonds issued by the largest corporations. Interestingly, this is consistent with the ‘opposite flight to quality’, where the bonds of the largest companies are sold first because they are more liquid, safer and / or have lower yields (Falato et al. 2021, Ma et al. 2022). , Haddad et al. 2021).

Our inquiries indicate that from March to December 2020, only the largest companies have tapped into the bond market in the next issue wave. Smaller and rated issuers borrowed less through bonds before 2020 If they are able to raise funds at all, it comes from the debt market.

Policy effect

Overall, our research suggests that the new players in the growing ‘minor leagues’ of the European bond market are much more established, isolated from the ‘top-division’ players and still largely bank-dependent. This evidence has three main policy implications. First, if we rely solely on the aggregate bond market index, we may not take into account what is happening with smaller issuers. Second, the bank-reliance reduction of small issuers may be exaggerated. Banks are the main investors in the market for small issuer bonds and therefore entering the bond market has not diversified the sources of funding of these companies as much as previously thought. Third, interventions aimed at stimulating the bond market may have limited effects on smaller issuers compared to larger, investment-grade firms.

Overall, looking at the European corporate bond market through a firm-level data lens reveals striking differences between the big and small leagues. It can help us better understand the problems related to financial stability, capital market development and growth.

Author’s Note: This column was first published as a European Central Bank Research Bulletin. The author gratefully acknowledges the comments of Jonathan Drake, Simon Manganelli, Alexander Popov and Joe Sprackel. The views expressed herein do not necessarily represent those of the author and of the European Central Bank or the Eurosystem.

References

Baker, B., and E. Benmelech (2021), “The Resilience of the U.S. Corporate Bond Market in the Time of the Financial Crisis”, NBER Working Paper 28868.

Cappiello, L, F Holm-Hadulla, A Maddaloni, S Mayordomo, R Unger et al. (2021), “Non-Bank Financial Intermediation in the Eurozone: Implications for Monetary Transmission and Key Weaknesses”, Occasional Paper Series No. 270, Frankfurt am Main: ECB.

Darmouni, O, and M Papoutsi (2022), “The Rise of Bond Financing in Europe”, Working Paper Series No. 2663, Frankfurt am Main: ECB.

Falato, A., I. Goldstein and A. Hortasu (2021), “Financial Fragility in the Covid-19 Crisis: In the case of investment funds in the corporate bond market”, Journal of Monetary Economics 123: 35-52.

Goldstein, I, H. Jiang and DT Ng (2017), “Investor Flow and Fragility in Corporate Bond Funds”, Journal of Financial Economics 126 (3): 592–613.

Haddad, V, A Moreira and T Muir (2021), “When Sales Go Viral: COVID-19 Crisis Crisis Market Debt and Fed’s Response”, Review of Financial Studies 34 (11): 5309–51.

Ma, Y, K Xiao and Y Zeng (2022), “Mutual Fund Liquidity Transformation and Reverse Flight to Liquidity”, Review of Financial Studies.