The Swedish Corporate Bond Market

1. Assessment and recommendations

Abstract

This chapter provides an assessment of the Swedish corporate bond market and a set of related recommendations to meet current and future challenges. The recommendations concern both public regulation and self-regulatory bodies. The chapter draws from a detailed mapping of the market and its development over the past two decades (Chapter 2) as well as interviews with key institutions and market participants.

The Swedish corporate bond market has changed significantly over the past twenty years, notably since the 2008 financial crisis. In parallel to rapid growth, there have been changes to both investor borrower profiles, notably with respect to credit risk, industry and size, with an increasing prevalence of smaller issuers.

The regulatory framework for corporate bonds has not developed at pace with the market. To an extent, this is natural: in a dynamic securities market, regulation will respond to market developments with a certain delay, when it can be established that changes are structural and the need for regulation can be clearly identified. However, the structural changes to the Swedish bond market that are documented in this report call for an assessment by regulators and market participants regarding the possible need for new regulation, including self-regulation. This section provides an assessment of the identified issues and the related policy recommendations. The underlying changes that are the basis for the recommendations can primarily be observed among smaller issuers, and to a large extent, the recommendations extend important best practices among larger issuers to the smaller segments of the market. The recommendations focus on Swedish non-financial companies listing bonds.

Addressing these issues, whether through regulatory measures, self-regulatory initiatives (building on the strong tradition of self-regulation in the Swedish market), or a combination thereof, would help improve the functioning of the Swedish corporate bond market. Swedish authorities have highlighted a lack of liquidity and transparency as structural issues in the market. Many of the issues identified in this report relate specifically to transparency, and improvements in these areas would likely contribute to the broader goal of improving liquidity, which is a core aspect of what makes market-based financing a flexible and resilient source of financing.

1.1. Information disclosure at issuance

A prerequisite for an efficient corporate bond market is that the information provided at the time of issuance is complete, consistent and timely. Information asymmetries between issuers and investors should be minimised and the issuer should provide all available information relevant to bond pricing to market participants on equal terms. The rapid growth of the Swedish corporate bond market and the entrance of many smaller issuers have limited the extent to which these requirements are satisfied.

As a general rule, the EU Prospectus Regulation requires and prescribes the content of a detailed offering document to be prepared in connection with a corporate bond issue. However, due to Swedish and broader EU market practice, issues are generally exempt from this requirement since the unit value of a bond is set to at least EUR 100 000 and the issue is directed only to qualified investors. Instead, the offer information to investors is typically provided in the form of an investment memorandum. This offer practice is used in the majority of non-financial corporate bond offers in Sweden today. However, there is no specific regulation or standard to guide neither the content, nor the review period of the investment memoranda.

Moreover, there are no specific regulations related to liability with respect to the accuracy of the information provided by an issuer that is using an investment memorandum or equivalent document other than a prospectus. This means that an investor in a corporate bond issue who has suffered damages due to deficiencies or inaccuracies in the issue documentation, such as the investment memorandum, must rely on general tort law rules on misleading marketing, which is likely to involve significant uncertainties and costs. More generally, the Swedish Financial Services Authority’s (FSA) analysis of prospectus liability has found that many actors consider that there are few or no possibilities to claim liability from legal persons for information in a prospectus, or that the legal situation is difficult to assess, even in cases where the rules on prospectus liability are applicable (Finansinspektionen, 2021[1]).

If a company wants to broaden its investor base by listing the bond for public trading, a listing prospectus needs to be prepared in accordance with the Prospectus Regulation, even if the issue itself was done with an investment memorandum. Market participants have noted that best practice is that the essential information provided in the listing prospectus should also have been included in the initial investment memorandum. Nevertheless, interviews suggest that it is not uncommon for the investment memorandum to lack essential company-specific information that is subsequently included in the listing prospectus. Examples where the two documents contain contradictory information have also been highlighted. Against this background, it is recommended that self-regulation be developed to ensure that essential information included in the formal prospectus, whenever possible, is also included in the initial investment memorandum. In addition, given the practice of using investment memoranda as the basis for investment, having company management (such as the CEO or the CFO) signing off to verify the accuracy of the information provided in these documents and its compliance with Article 22.3–4 of the Prospectus Regulation as a standard practice could help improve market trust.

Contractual freedom and variability with respect to the terms of a bond issue is part of a sound market process of finding financial solutions that suit both issuers and investors. In order for the bond market to benefit from this process, it is necessary that also qualified investors are given sufficient time to properly evaluate the sometimes complex and idiosyncratic contractual terms of a bond offer. However, several investors have testified that the time they are given to review and assess the terms of an offer can be unduly short. This may discourage participation as well as limit the possibilities of applying tailored and idiosyncratic terms that after proper analysis may prove to be an efficient financial solution for both the company and the investor. In order to mitigate these risks, it is recommended that market participants establish a default review period of circa 10 days.

The introduction of such a default standard for reviewing investment memoranda would, for example, be in line with the required acceptance period that apply under the Swedish Securities Market Self-Regulation Committee's Takeover Rules (2021[2]) for both regulated markets and certain trading platforms. However, the introduction of a default review period should account for the fact that the issuer in some cases may be under considerable time pressure to obtain financing. In other cases, such as investment grade tap-issues or issuance under an established medium-term note (MTN) programme, investors are generally unlikely to need a particularly long review period. Any self-regulatory provisions with respect to review periods should accommodate well motivated deviations from the default review period.

1.2. Comparability of bond terms

Disclosure should not only be complete, consistent and timely. A well-functioning market also requires that information is comparable across different bond issues. This may become a challenge when the number of issues increases and there is large variation in the design, definition, and use of bond covenants. Market participants, in particular investors, have therefore indicated an interest in ways to improve comparability of bond terms.

The starting point for the design and use of bond terms is the freedom of contract, which is assumed to bring efficient financing solutions for both investors and companies. Any deviations from this principle must therefore be well motivated. The tradition in Swedish civil law is to limit this freedom of contract only when the relationships between the parties in a contractual situation are unequal (e.g. consumer protection) or in the event of market failures.

In order to improve comparability of bond terms while safeguarding the freedom of contract, it is recommended that a self-regulatory body establishes a template for the standard non‑commercial terms used in Swedish corporate bond issues intended for the Swedish market, considering the differences between standalone issues and issues within programmes. The template could for instance cover the terms regarding the bondholder meeting and important decisions such as change of terms and majority provisions, the role of the agent and disclosure.

Such a template could be based on the main principles of the Swedish Securities Markets Association's standard terms and conditions for bonds and be applied on a “comply or explain” basis. The template would then serve as the default standard for how bond terms should be presented and explained regarding certain areas. A company issuing under the standard bond terms would simply state that its offer is in line with the standard template (in the areas covered by the template). If the bond terms or terminology deviate from the agreed template, this would be added in a brief note explaining why these differences occur and what they imply. This approach could also be applied to specific market segments (e.g. non-investment grade and unrated bonds), as deemed necessary by market participants.

A complementary means to achieve comparability is through increased standardisation. One way to do this is to further encourage a voluntary Swedish benchmark standard as suggested by the Swedish FSA, the National Debt Office and the Riksbank (see section 2.8.2).

1.3. Equal treatment of bondholders

Equal treatment of investors is one of the core tenets of Swedish capital market regulation. The Swedish Securities Market Act (Chapter 18, Section 3) provides a requirement of equal treatment of bondholders with regard to information, which implements Article 18(1) of the EU Transparency Directive (Lidman, 2023[3]). Contrary to what applies on the stock market, however, there is currently no general rule on equal treatment of bondholders in Swedish law, and there is no national case law or other source of law that provides other specific rules on equal treatment. Market participants have indicated that the understanding of the requirement differs among practitioners, resulting in cases where bondholders are not treated equally, including with regard to access to information, bond buybacks, early redemptions and award of consent fees.

Developing a common understanding of equal treatment on the bond market is particularly relevant in the context of extensive growth which has resulted in a certain degree of heterogeneity in the market. The self-regulatory approach of the Swedish equity market may serve as a reference point; core principles of equal or equivalent treatment in, for instance, the Swedish Companies Act are complemented by self-regulatory rules on private placements, rules on equal treatment of target company shareholders in takeover bids1 and statements by the Swedish Securities Council.2

Given the effectiveness and strong tradition of self-regulation in Sweden, such a model, in which market participants develop rules on equal treatment through self-regulation, should also be feasible for the corporate bond market. Examples of areas where the meaning of equal treatment could be clarified include information exchanges between the issuer (or agent) and the bondholders; repurchases and early redemptions; and events of changes to the terms and conditions (for example in award of a consent fee).

It is recommended that a general requirement of equal treatment of bondholders is introduced in law, and that it is supplemented by market participants through self-regulation that develop its application and meaning. Such an approach can be modelled on the Swedish Takeover Rules and other equity market regulation, where self-regulation and numerous rulings by the Swedish Securities Council have established a clear understanding of the principle of equal treatment.

1.4. Ongoing disclosure of price-sensitive information

An issuer whose securities are admitted to trading on a regulated market or a multilateral trading facility (MTF) is required to disclose inside information under Articles 7 and 17 of the EU Market Abuse Regulation (MAR) (European Parliament and the Council of the European Union, 2014[4]). This disclosure obligation is complex and virtually all case law and literature in this area is focused on the disclosure of inside information with regard to issuers of equity. Given the generally higher sensitivity of the price of a share compared to the price of a bond, information other than that which relates directly to the bonds themselves as securities will rarely be considered inside information exclusively in relation to bonds, but will also be considered inside information with respect to shares. In these cases, it is therefore relatively easy to obtain guidance on what constitutes inside information in a company and how to treat it. However, for companies that only have bonds admitted to trading there is effectively no guidance, and the disclosure requirements for these companies are not deemed clear.

To promote disclosure and the application of MAR, it is therefore recommended to explore methods involving market participants to increase the disclosure of inside information by corporate bond issuers.

Examples of issues in need of clarification include:

1. The types of information that in principle always constitute inside information (e.g. significant risk of default, planned changes to bond terms, planned repurchases, significant risk of credit rating downgrades)

2. How disclosure should be managed when there is a risk of default

3. If and when favourable information about the company's performance may constitute inside information

4. Whether the assessment of what constitutes inside information may differ according to the type of issuer (e.g. investment grade versus non-investment grade issuers).

1.5. The role of the agent

For most Swedish non-investment grade bonds, an agent3 is appointed with the authority to represent bondholders in relation to the issuer and to safeguard their interests as an investor group. The agent is formally appointed by the issuer, and in practice on the recommendation of the arranging bank (alternatively, as is often the case for investment grade bonds, the duties of the agent are carried out directly by the arranging bank).

Contrary to other Nordic countries, there is no specific Swedish regulation on the role and duties of the agent beyond general rules on representatives and proxies. This has raised several calls for relevant regulation, including from Swedish industry (Confederation of Swedish Enterprise, 2012[5]).

There is specific legislation on the role and duty of the agent in Denmark and Finland. In Norway, where agents have been present in the market since 1993 when Norsk tillitsmann ASA was founded,4 agents are regulated by case law and through market practice.5 The Finnish as well as the Danish law is detailed and deals with, among other things, the selection of agent, the legal effect of the agency agreement, the requirement that the agent must treat bondholders equally, its right to represent the bondholders in various ways, and other duties towards the bondholders.6

To address possible conflicts of interest and to ensure the right of legal representation, it is recommended that specific rules concerning the role of the agent be introduced in Swedish law, in line with other Nordic countries.

1.6. Credit ratings among smaller issuers

Forty-eight percent of all Swedish issues between 2000 and 2023 did not have a rating from one of the three main international rating agencies. While other Nordic countries are also characterised by a high portion of unrated bonds, it is well above some other European markets and the United States (see Figure 3.6).

To a large extent, this can be explained by the relatively small size of certain Swedish issuers and their bonds (see Figure 2.11). Small issue sizes can make obtaining a rating from the major international credit rating agencies (S&P, Moody’s and Fitch) prohibitively expensive. S&P data show that the cost of a credit rating generally amounts to 0.071% of the total transaction value, with a minimum cost of USD 110 000, which in practice means that all issues below USD 155 million will entail a cost of more than 0.071%. There are also additional annual costs associated with having a credit rating. This means that for a bond issue of USD 71 million, which was the median size in Sweden in 2023, the total cost would be 0.15%. Another factor that may discourage ratings among smaller companies is the positive correlation between the size of the company and the credit rating (OECD, 2021[6]). A third possible contributing factor relates to market practice. Until 2018, several major Swedish banks issued so-called shadow ratings, where they assigned credit ratings to issuers on a scale similar to that used by the main international rating agencies. However, these activities ceased following rulings by ESMA in 2018 concluding that they were in breach of the Credit Rating Agencies Regulation (ESMA, 2018[7]). Thus far, the disappearance of shadow ratings has not been offset by an increased use of “official” ratings among non-financial companies. In 2016, rating company Nordic Credit Rating was set up by large banks and institutions in the region to lower the threshold for small and mid-sized issuers to obtain a credit rating.

Because of their significance to institutional investors and indexing strategies, credit ratings can play an important role in bond market development. Widespread use of credit ratings also gives both regulators and investors a broad measure to gauge credit risk in a market. The relatively high share of unrated bonds in Sweden could therefore be a detriment to further market development.

It is recommended to consider means and incentives to increase the use of credit ratings by smaller issuers.

Means and incentives to increase the use of credit ratings (local or international) naturally need to take the typical issuer profile and size of the market into account – introducing a simple credit rating requirement for bond issuers (or a category thereof) would likely not be appropriate, given the significance of the associated cost to smaller issuers. Some countries, recognising the disincentives for smaller issuers to obtain credit ratings, have introduced systems where credit ratings are provided nationally at a lower cost. In France, for example, the Banque de France provides a form of credit rating for individual companies for a fee through the FIBEN system. Another possible measure, aligned with local practices, could be the "comply or explain" model discussed in section 1.2, whereby issuers would be obliged to either obtain a credit rating or explain why they have chosen not to.

1.7. Price transparency and secondary market liquidity

Section 2.8 highlights the decrease in price transparency on the Swedish market following the implementation of MiFID II and MiFIR in 2018. Surveys of market participants suggest that a lack of transparency in pricing and trading has led to unreliable pricing. In response to these developments, in 2020 the Swedish FSA commissioned the Swedish Securities Markets Association (SSMA) to examine ways to improve transparency. This resulted in a recommendation on voluntary transparency rules in addition to the mandatory MiFIR/D II rules, which appears to have been generally well-received. However, many investors still consider price transparency to be inadequate.

In addition, an EU-level review of MiFIR is currently underway, partly with the aim of improving price transparency in the markets. The European Commission presented its proposal for an amending directive at the beginning of 2021. The European Parliament presented its preliminary position on the proposal in July 2022, and a political agreement was reached in June 2023, including the creation of a mandatory framework for a consolidated tape, which is set to include post-trade bond data (European Commission, 2023[8]).

A related issue has to do with secondary market liquidity. A large empirical literature documents the connection between transparency and bond market liquidity/transaction costs, often suggesting increased transparency has beneficial effects on these areas (see e.g. (Edwards, Lawrence and Piwowar, 2007[9]; Goldstein, Hotchkiss and Sirri, 2007[10]; Bessembinder and Maxwell, 2008[11]; Brugler, Comerton-Forde and Martin, 2022[12])). The lack of liquidity in Sweden has been highlighted as a policy concern by the Swedish Riksbank, the Swedish National Debt Office and the Swedish FSA (see e.g. (Wollert, 2020[13]) as well as Finansinspektionen (2021[14]) and (2022[15])). An objection that is sometimes made against increased price transparency is that it may reduce incentives for dealer activity, thus reducing liquidity. This debate was prominent during the introduction of the Trade Reporting and Compliance Engine (TRACE) system in the United States in the early 2000s, and the reason why it was phased in gradually. However, dealer activity has remained rather high and no significant detrimental effects on dealer-provided liquidity have been observed following the introduction of TRACE (see further section 2.7).

Low corporate bond market liquidity is not unique to the Swedish market. As further discussed in section 2.8, this partly has to do with the nature of the instrument: fixed income securities like corporate bonds pay defined amounts over their lifetime and are redeemed at a set time, making them well-suited for long-term buy-and-hold investors that need predictable cash flows to match their liabilities. The nature of a debt contract also means that the market value of a bond does not have upside exposure to positive developments in the issuer's business in the way that shares do, meaning the incentives for trading are not the same as for equities. Lower levels of liquidity than in equity markets are therefore natural and should be expected. However, it is important to promote liquidity to the extent possible, as excessively low liquidity in the secondary market is associated with higher costs of capital and spreads in the primary market (see e.g. (Longstaff, Mithal and Neis, 2005[16]; Chen, Lesmond and Wei, 2007[17]; Bao, Pan and Wang, 2011[18])). In addition, low liquidity can exacerbate the negative effects of fire sale pressures in times of crisis, as was arguably the case in Sweden during the pandemic-induced crisis in 2020 (see section 2.8.1).

Liquidity is typically defined as a measure of market participants' ability to carry out transactions without triggering price changes. A liquid bond market can thus be said to be a market that enables the purchase and sale of large quantities of securities at any time and at low transaction costs. In addition to adequate levels of transparency, this requires a large, broad and heterogeneous investor base (Li and Yu, 2022[19]). Regulation plays a role in promoting both of these things, and several of the proposed measures outlined in this report would contribute to increased liquidity: increased disclosure in connection with issues; increased comparability of bond terms; better regular disclosure; and increased use of credit ratings would all serve to increase investor confidence and lower the cost of information collection. Clearer requirements for equal treatment and regulation of the role of the agent would likely further strengthen investor protection and lead to possible reductions in the cost of information collection, bargaining and monitoring.

As discussed under section 2.8.2, one proposal to improve liquidity, put forward jointly by the Swedish Riksbank, the FSA and the National Debt Office, is to create a benchmark standard for Swedish corporate bonds. One reason companies may be hesitant to issue benchmark bonds relates to refinancing risk. By having a larger share of outstanding debt tied up in one instrument, an issuer is more exposed to low market demand and/or tighter financial conditions when the debt needs to be refinanced. Companies may therefore have incentives to issue several smaller bonds to spread out repayment, decreasing this risk. On the other hand, the regulatory rationale for increasing the use of benchmark bonds is to increase liquidity, which would serve to decrease refinancing risks. To overcome this coordination problem, where optimal decisions at the firm-level could arguably lead to sub-optimal outcomes at the market level, it could be explored whether regulatory/fiscal incentives would help shift issuers towards benchmark issues. Section 2.8.2 provides an estimate of existing and assessed potential benchmark issues in the Swedish market.

Price transparency should be improved. Together with other measures to improve market functioning outlined in this report, this would likely contribute to improved secondary market liquidity. Domestic policy measures should also make sure to benefit from the development of an EU-level consolidated tape. Given experiences in other markets, including the United States following the introduction of TRACE, the potential negative effects on dealer activity of increased price transparency should be monitored but may not be a major concern.

Notes

← 1.  See Directive 2004/25/EC on takeover bids, Article 3(1)(a) which is repeated in the introduction to the Stock Market Self-Regulation Committee's takeover rules for both regulated markets and trading platforms as well as in point II.10.

← 2.  Sometimes called “the Swedish Takeover Panel”. See in particular points II.11-16 of the Takeover Rules. The Swedish Securities Council has addressed the issue of equal treatment of target company shareholders in a significant number of statements (Lidman, 2020[52]).

← 3.  On many markets, a “trustee” will be appointed for a bond issuance, with a legal position determined under the law of trusts. Anglo-Saxon trust law is not recognised under Swedish law. Instead, a similar, but not identical, legal figure is created through the bond term contracts. This legal figure is described as an “agent”, which is the term applied in this report. This should however be distinguished from the legal figure sometimes described as a “paying agent”, which also appears in international bonds, but which has a significantly more limited role than an “agent” under Swedish law.

← 4.  Now Nordic Trustee – the main independent agent on the Swedish market.

← 5.  See the Finnish Act 25.8.2017/574 on representatives of bondholders and the Danish regulation on "representative" in Danish law LBK nr 1 229 af 07 September 2016. For Norwegian law, see e.g. Høyesteretten's judgements HR-2010-00568-A and HR-2010-01489-U.

← 6.  See also the proposal for the Finnish Act for a comprehensive discussion of the role and position of the agent, proposal RP 48/2017 vp.