The credit market is the mechanism through which new debt can be issued or in which existing debt can be traded. As the bond market represents the dominant portion of the credit market, the terms ‘bond market’, ‘debt market’ and ‘credit market’ are often used interchangeably.
Credit markets and equity markets make up the capital market. The credit market represents the largest portion: the size of the global bond market is estimated at USD 102.8 trillion,** compared with the global equity market capitalization of USD 74.7 trillion.**
Issuance of new debt takes place in the primary market, as a means for governments, government agencies and companies to raise capital. In buying these debt instruments, investors lend money to the issuers in exchange for the promise of repayment of the loan value – or face value, or par value – at a specified future date – the maturity date. Depending on how the debt agreement is structured, the buyer may be entitled to a regular payment, referred to as the coupon.
Once issued in the primary market, debt can be traded in the secondary market. When debt instruments change hands, the new owners become entitled to coupon payments and the eventual repayment of the face value upon maturity. Aside from the debt issuers, participants in credit markets include wealth managers, pension funds, insurers, hedge funds, traders and retail investors.
The pricing of debt instruments is based largely on the creditworthiness of the issuing entity: if the market has doubts about the ability of a government or a business to meet its debt service and repayment obligations, it would demand a higher compensation for buying and holding the debt.
General market sentiment, currency risk, political risk, changes in policy interest rates, regulatory changes that change the business environment, amongst other factors, would influence this assessment of creditworthiness.
In credit markets, valuation is reflected in the yield on the debt instrument, which is the ratio of the annual coupon payment to the market price of the bond. Should the price of a debt instrument trade lower owing to the view that it has become riskier, the yield on the debt instrument rises (see bond spread).
Credit market activity is a barometer of sentiment and thus of likely future economic and market trends.Footnote: ** SIFMA estimates for 2018, measured as total outstanding debt (September 2019)