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The chart below graphs the spread, additional yield pickup, on offer to investors for investing in the European and US corporate bond markets. As seen in the graph, the spread on offer from European corporate bonds today is a lot higher relative to US corporate bond spreads, indicating a higher potential return for investors.
This trend is different from historical patterns whereby US corporate bonds offered a slightly higher spread pre-Covid, albeit only marginal. This differential also disappeared during Covid when all yield and spread opportunities compressed.
The reasons behind this higher spread level in Europe today is due to fundamental differences. As we know, the spread, or additional yield pick up on offer from corporate bonds today, aims to compensate investors for the additional credit risks associated with corporate bonds relative to sovereign bonds, including but not limited to default risks. Within Europe, the weaker growth picture relative to the US, has therefore driven an increased risk premium for European assets relative to US assets.
Importantly however, the growth outlook for Europe, although weaker is still positive, which provides a supportive backdrop for European corporates. In addition to this, European corporate balance sheets are a lot healthier today relative to history, with ample cash balances. Furthermore, any new debt issued by corporates is met with significant investor buying demand, meaning that European corporates have significant access to capital and liquidity helping to mitigate the risk of default.
