The gap between interest rates on five-year government bonds and on corporate bonds of the same maturity has widened, Mint reported yesterday. The gap was 1.04% in October 2006; it has now increased to 1.5%.
This increasing yield gap is a warning that investor concerns about corporate credit quality could be rising. These worries could further push up interest rates paid by companies to their bond holders. The Reserve Bank of India has been warning banks about the threat from declining credit quality for at least a year now. Credit rating agency Crisil too has said it has been downgrading companies faster than it has been upgrading them.
Now it seems as if the bond market is buying into these worries. With companies borrowing more to fund their growth, a decline in credit quality is perhaps inevitable.
There is no need to panic. But it is to be seen how companies and banks manage these higher risks.