Bond Ratings Cuts Advance to Fastest Since ’09: Credit Markets
Standard & Poor’s and Moody’s Investors Service are cutting corporate debt ratings at the fastest pace since 2009 as a global economic slowdown and record borrowing erode credit quality.
The ratio of ratings downgrades to upgrades worldwide climbed to 1.85 this year from 1.23 in 2011, according to S&P data. PSA Peugeot Citroen (UG), Europe’s second-largest carmaker, was cut three times by Moody’s since March to speculative grade. Fort Worth, Texas-based RadioShack Corp. (RSH) was lowered four steps this year by S&P to seven levels below investment grade. Defaults rose to 80 issuers from 52 in 2011, according to S&P.
Europe’s second recession in four years and slowing global economic growth are helping to push a measure of corporate debt to earnings to a three-year high, Barclays Plc data show. Companies from the neediest to the most creditworthy sold unprecedented amounts of debt at record-low yields in 2012 as the Federal Reserve held interest rates at almost zero for a fourth year in an effort to boost the U.S. economy.
“We’re going to have an elevated level of negative outlooks,” Diane Vazza, head of S&P’s global fixed-income research, said in a telephone interview. “The companies that we’re seeing with downgrade pressure are speculative-grade companies.”
Companies from Singapore to San Francisco have sold $3.93 trillion of debt in 2012 to take advantage of yields that fell to 3.27 percent last week, according to data compiled by Bloomberg and the Bank of America Merrill Lynch Global Corporate & High Yield Index.
The increased borrowing and slower growth have increased the ratio of debt to earnings before interest, taxes, depreciation and amortization to 1.5 times at non-financial investment-grade U.S. companies, the highest level since 2009, Barclays analysts said in a Nov. 16 report.
That ratio is likely to increase in 2013 as companies facing a “deteriorating outlook” for the economy pursue transactions intended to boost stock prices, the analysts said. The 34-nation Organization for Economic Cooperation and Development in Paris last month lowered its forecast for growth, projecting the group’s economies will grow 1.4 percent next year, less than the 2.2 percent predicted in June.
The securities returned 11.8 percent this year through Dec. 21, the most since the 20.5 percent return in 2009, Bank of America Merrill Lynch index data show.
Elsewhere in credit markets, the cost of protecting corporate debt from default in the U.S. rose today. The Markit CDX North American Investment Grade Index, which investors use to hedge against losses or to speculate on creditworthiness, added 1.1 basis points from Dec. 24 to a mid-price of 94.7 basis points as of 11:19 a.m. in New York, according to prices compiled by Bloomberg. Markets were closed yesterday for the Christmas holiday.
The measure typically rises as investor confidence deteriorates and falls as it improves. Credit-default swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.
The U.S. two-year interest-rate swap spread, a measure of debt market stress, increased 2.36 basis points to 14.11 basis points as of 11:20 a.m. in New York. The gauge widens when investors seek the perceived safety of government securities and narrows when they favor assets such as company debentures.
Bonds of Morgan Stanley (MS) are the most actively traded dollar- denominated corporate securities by dealers today, with 18 trades of $1 million or more as of 11:21 a.m. in New York, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority.
Bonds of RadioShack have declined 19.2 percent this year. Profitability is being squeezed as the company concentrates on low-margin mobile phones to fend off competition from online and discount retailers.
Peugeot said in July that it was burning through cash at a rate of 200 million euros ($263.8 million) a month as the European auto market heads for a 17-year low. The automaker reached an 11.5 billion-euro refinancing agreement to rescue its bank unit last week. The deal is part of broader effort to shore up the automaker’s finances, including 7 billion euros in bond guarantees from the French state, asset sales and a partnership with General Motors Co.
Gross domestic product in the 17-nation euro region shrank 0.1 percent in the third quarter, the area’s statistics office in Luxembourg said on Dec. 6. The region is estimated to expand by 0.38 percent next year, according to economists surveyed by Bloomberg.
The ratio of downgrades to upgrades in Western Europe increased to 8.2 in 2012 from 4.7 last year, according to data from Moody’s.
The U.S. central bank said on Dec. 12 for the first time that rates will stay low “at least as long” as the jobless rate remains above 6.5 percent and Fed economists project inflation of no more than 2.5 percent one or two years in the future. The Fed has kept its benchmark rate near zero since December 2008.
“Companies are borrowing more for general corporate purposes and they may make an acquisition, they may sit on the cash,” Sabur Moini, who manages about $2.5 billion of high- yield assets at Payden & Rygel in Los Angeles, said in a telephone interview. “Those are the kinds of things that concern” ratings companies, he said, “when companies are just raising cash and it’s sort of unclear what they’re going to do with the cash.”
Investors are taking on more risk by buying junk bonds that have lower covenant quality, according to Moody’s. Sales of so- called pay-in-kind toggle notes, securities that allow the borrower to make interest payments with more debt instead of cash, reached $4.9 billion this year, the most since $6.5 billion in 2007, according to data compiled by Bloomberg.
“You are seeing more aggressive deal structures,” Moini said. “Investors want yield and even if it’s a PIK toggle, CCC deal at 9 percent, there are buyers for that.”
The relative yield investors demand to hold company debt rather than sovereign securities shrank to 219 basis points this year through Dec. 21 from 351 basis points at the end of 2011, Bank of America Merrill Lynch index data show. Spreads have fallen from 657 basis points in December 2008.
Corporate bonds have returned 11.4 percent on average each year since losing 7.5 percent in 2008.
The default rate for speculative-grade companies fell to 2.7 percent in November from 3.1 percent in October, below the 4.8 percent average since 1983, according to Moody’s. The rate will “remain below historical averages” next year, Moody’s analysts led by Albert Metz said in a Dec. 10 report.
“If you look at some of the spreads where these corporates are trading, you start to wonder how much more of a rally can you get?” Kenneth Naehu, who helps oversee about $3.25 billion in assets as head of fixed income at Bel Air Investment Advisors LLC in Los Angeles, said in a telephone interview. “That doesn’t mean it’s impossible, you’re just up against levels that will be difficult to rally from.”
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