A bond spread is the difference between the interest rate on two bonds. Typically, bond spreads measure the difference between bonds which mature at similar dates in the future but which have different risk associated them. Bonds are basically loans to companies and governments which are made by individuals and financial institutions such as insurance companies and pension funds. More details can be found at the eZonomics video How bonds work.
It is common to measure spreads between bonds issued by companies (corporate bonds) and those issued by governments. Because companies fail and may not be able to repay all of the money associated with the bond, corporate bonds are more risky than government bonds. To compensate for this additional risk, the interest rate on corporate bonds is higher than for government bonds issued in the same country. Depending on the amount of risk involved in a particular bond, the spread may be small or large.
How to use spreads
Bond spreads can change over time. A period of low profits by a company may see its spread increase. When spreads are much larger than usual, investors are offered a higher interest rate. This may be a good time to buy a corporate bond because the spread may reduce in the future.
Spreading the news
Spreads are measured not only between corporate and government bonds but also between bonds issued by different governments. Within Europe, countries that use the euro as a common currency offer different interest rates on their bonds. Spreads against German government bonds for some countries have increased noticeably over the past year as countries adjust at different rates to economic conditions following the global financial crisis.