Bond Spreads

The FT.com site leads today with a story titled "Bond fundraising costs soar". This relates well to Article 12 (on Citigroup) from my book. In the "Key Terms" section you will see the term Tight credit spreads defined (pages 60-61).

As I say the "spread is a measure of the relative cost of issuing more risky bonds". So that if a very low risk issuer like the US Government can issue a 10-year bond with a yield of just 4.5% while a similar issue from Ford Motor Company (with much more credit-risk) might cost them 6.5% the spread is equal to:

6.5% - 4.5% = 2% or a 200 basis points spread.

The article on the FT's website suggests that increased concern about the financial position of the banks, rising default rates and a worsening economic climate were all combining to force these the price of risk to much higher levels. To put it simply, investors were demanding higher risk premiums to buy more risky bonds.