What is the significance of spread between GOI bonds and corporate bonds for the same period?

e.g. The spread between the benchmark 5 year AAA corporate bond yield over the 5 year benchmark government bond contracted marginally by 2bps to close the week at 144bps.

Rahul Agrawal

The spread indicates the risk appetite of investors in the bond markets.

For an investor who is investing INR, GoI (Government of India) bonds are considered risk-free bonds.

All corporate bonds carry a risk and thus have yields higher than GoI bonds.

When the financial markets are confident and risk-appetite is high, the difference in yields (spread) narrows.

When there is uncertainty and risk-appetite is low, the spread widens.

In October 2008, there was so much panic in the market, yields of corporate bonds were rising (bond prices were falling) and yields of GoI bonds were falling (bond prices were rising).

This was a rare time when yields of GoI and Corporate bonds moved in opposite directions over a medium-term.

In 2005, this spread had fallen to as low as 30-40 bps.

Source.

See the graph below. It shows how the GoI Bonds-Corporate Bonds spread widened between August and November 2008



Source of image: Economic Survey 2008-2009.

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Hi,
can u please tell me why the yield spreads between the long n short term g-secs increased exactly during the time when RBI reduced the benchmark rates during 2008-09??

monetary tightening decreases the spreads between long-term g-secs and short-term g-secs.

(please note that we are talking about spreads and not the absolute yields.

monetary tightening causes both long-term and short-term yields to rise).

monetary easing has the reverse effect.

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higher the interest rates, more is the investors' urge to lock-in the rates for a longer period.

as rates move higher, people invest more in longer-term bonds and thus longer-term bond prices fall less (yields rise less).

it is not just about current rates, but also about future expectations of rates.

economists have observed that many times, the yield curve inverts just before a recession arrives.

this means people start giving preference to longer-term bonds just before a recession.

(recessions cause rates to fall and thus investors want to lock-in the peak rates just before a recession).

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