# _Corporate bonds_<sup>_96_</sup>

Domestic corporate bond market activity is low in Denmark. This is mainly due to the relatively large number of small-and medium-sized enterprises (SMEs) in Danish industry and the fact that most short-and medium-term mortgage financing of SMEs are provided with MCIs (see Chapter 5.1.4), particularly through the specialized institution – the FIH (Finance for Danish Industry A/S).<sup>97</sup> An important difference between corporate bonds and government and mortgage bonds is the credit risk<sup>98</sup> involved. Companies, which plan on issuing corporate bonds, often get a credit rating -- the higher the credit rating,<sup>99</sup> the higher prices the company can expect for its bonds, which will reduce the interest rate on the loan. Therefore, another reason for the low activity relates to the costs of rating.

Also, another important difference is the higher level of liquidity risk that is often involved in investments in corporate bonds, as most corporate bonds are issued in relatively small series and are often sold as private placements, i.e., the bonds are initially distributed to investors who wish to hold the bonds until maturity. Thus, secondary markets may turn out to be rather modest. Therefore, investors who wish to sell such corporate bonds on the secondary market may have to accept a reduction in the price, i.e., pay a liquidity premium in order to sell their bonds.

Exchange-traded corporate bonds have only existed in Denmark over the past few decades and equal just two percent of the total Danish fixed income market. Of these bonds issuance, 42% are issued by GSEs (see Chapter 5.1.3), 35% relate to foreign and supranational<sup>100</sup> loans issued in Denmark and denominated in DKK, and 19% to subordinated debt issued by banks and mortgage credit institutions<sup>101</sup> .

> 96 Sources: Danish Stock Exchange and " _The European Bond Markets – An overview and Analysis for Issuers and Investors_ " (1997).

97 FIH was established in 1958 with the purpose of providing medium- and long term capital for Danish industries. It was established on the initiative of the Danish Central Bank, domestic banks, insurance companies and industry confederations. Its first domestic bond issue (maturity eight years) was in 1961. It was first rated (by Moody’s) in 1989. In 1999 the majority of shares in FIH was taken over by a Swedish banking group.

98 Credit risk indicates the likelihood of an investor losing part or at worst the entire principal amount, if the company that has issued the corporate bond defaults. The credit risks may vary; bonds issued by governments and GSEs are typically considered to be credit-risk free. Also, bonds issued by supranationals are usually associated with a moderate credit risk.

99 The most commonly used rating firms in Denmark are Standard and Poor ́s, Moody ́s and Fitch/IBCA. Any reference in this report to Investment Grade bonds is a reference to bonds with a rating from one of these rating firms at AAA (Aaa) to BBB (Baa). Reference to high-yield or junk bonds is a reference to bonds with a BB (Ba) credit quality or lower, i.e., they have speculative characteristics.

100 Supranationals typically are international organizations and institutions backed by one or more countries, e.g., the Nordic Investment Bank (NIB), the European Investment Bank (EIB) and the World Bank (IBRD). Moreover, a number of foreign companies have issued bonds denominated in Danish kroner, e.g., Statoil, Landesbank Kiel and Banca di Roma.

101 Issuers of subordinated debt in Denmark exclusively include credit institutions, i.e., primarily banks and a few mortgage banks. Subordinated loans are issued as an alternative to equity in order to fulfil their own fund requirements as set out in the EU Capital Adequacy Directive (see Chapter 3.2.1). Unlike the other bond loans, bonds issued as subordinated loan capital rank lower in the order of priority if the issuer should go into insolvent 73