RDP 2012-09: A History of Australian Corporate Bonds 1. Introduction

The bond market is a significant source of funds for many Australian financial and non-financial corporations. Correspondingly, this financing activity provides investment opportunities for both Australians and non-residents.

This paper examines the development of the Australian corporate bond market over the past century; it discusses how the bond market has changed and what has driven these changes. To do so, we have compiled a new unit-record dataset for bonds that covers onshore and offshore bond issuance by Australian entities from the early 1900s.

Since the early 20th century, the stock of bonds issued by Australian corporations has grown at an average annual rate of 4 per cent (adjusted for inflation). At around $825 billion, the current face value of the stock of bonds outstanding is around two-thirds of the market capitalisation of ASX-listed equities and equivalent to 62 per cent of gross domestic product (GDP) (Figure 1).^[1]

Trends in the growth, size and composition of the bond market over the past century can be broadly grouped into three periods:

1. Up to about 1950 – a period when the bond market was relatively large and mostly comprised of publicly owned issuers.
2. From 1950 to the mid 1980s – a time of transition from publicly owned issuers to private issuers. The bond market was relatively small and the financial sector was heavily regulated over this period.
3. From the late 1980s to today – a period of strong growth in the bond market and considerable private issuance.

Prior to the 1980s, government-owned corporations were the largest issuers of bonds in the Australian corporate bond market. Among these, the largest issuers were non-financial public trading enterprises (PTEs) and, to a lesser extent, government-owned banks. In contrast, the private corporate bond market did not see much growth until the 1950s and remained relatively undeveloped until the 1980s. Since the early 1980s there has been strong growth in the private corporate bond market, with banks the largest issuers of bonds today. Entities from a broad range of industries and with a wide range of credit ratings are now able to access the bond market. In addition, Australian corporations now raise a significant amount of funding in bond markets offshore.

Changes in the regulatory landscape, such as the regulation of the banking system during the 1950s and 1960s and deregulation of the financial system and capital account liberalisation during the 1970s and 1980s, were important drivers of these shifts in the corporate bond market. Increased privatisation activity, particularly in the 1990s and early 2000s, also played a role.

Macroeconomic events and regulatory developments have also influenced changes in the investor base. Following the introduction of compulsory superannuation, households' direct holdings of bonds declined substantially as they shifted toward holding their financial assets through superannuation funds. Foreign investors have become more prominent since Australia's capital account was liberalised. Direct holdings by households now make up only a small share of the investor base, in contrast to their dominance prior to the 1980s, and foreign investors have the largest share.

The pricing of corporate bonds is influenced by the economic cycle, reflecting changes in risk appetite and uncertainty. Bond spreads are generally higher and more dispersed during periods of economic and financial turmoil. While spreads have, on average, been higher for bonds with a lower credit rating, the significant variation in the prices of bonds with the same credit rating suggests that other factors, such as the degree of market liquidity, also play a role.

The rest of the paper is structured as follows. Section 2 introduces the long-run corporate bond dataset and discusses the changes in the structure of the market. Section 3 examines developments in the bond market up to about 1950, when the market was relatively large and comprised mostly of publicly owned issuers. Section 4 details the period of transition from publicly owned issuers to private issuers, between 1950 and 1980, including the introduction of banking regulations following World War II (WWII). Section 5 discusses how deregulation and liberalisation in the 1980s have contributed to strong growth and internationalisation of the bond market, as well as changes to the issuer and investor bases. Section 6 analyses the pricing of corporate bonds and some of the risk factors that influence bond spreads, while Section 7 concludes.

Footnote

The denominator in this ratio is a five-year rolling average of GDP, which helps to smooth out the volatility of GDP and takes into account the extent to which the relationship between the stock of bonds outstanding and economic cycles is moderated because bonds have maturities of a number of years. The average tenor of newly issued bonds has shortened from around 12 years pre-1950 to around 5 years more recently. [1]