2020 has already had the greatest number of downgrades to below-investment-grade on record, surpassing the annual amounts of the recession in 2002, the great financial crisis in 2009 and the commodity crash in 2015. Yet Western Asset sees the potential for opportunity amid the downgrades, if managed with care.
The economic damage from COVID-19 has taken its toll on the financial health of issuers in many sectors, both expected and otherwise. Rating agencies have responded accordingly, according to Western Asset. One example: Moody’s has announced over 600 downgrades in the three months ended June 24, 2020, compared to the monthly average of 40 in the past two years. As of the latter part of June, there were $973 billion of investment-grade (IG) corporates that are rated low BBB (BAA3 or BBB-). Of that amount, $466 billion is on a negative watch of at least one major rating agency.
As noted by Western Asset’s Thomas V. McMahon, that’s created an abundance of “fallen angels” without recent precedent:
“ To put this year’s fallen angel totals into historical perspective, 2020 has already had the greatest number of downgrades to below-investment-grade on record, surpassing the annual amounts of the recession in 2002, the great financial crisis in 2009 and the commodity crash in 2015. With $466 billion of BBB- issuers on negative watchlist, fallen angel volume will continue to increase throughout the balance of 2020. Wall Street strategist estimates for 2020 full-year fallen angel volume vary, ranging from $200 billion to $500 billion.”
(Excerpted from Fallen Angels Bring Opportunities )
Fallen Angels vs. Rising Stars
Source: J.P. Morgan, as of 29 May 2020. Past performance is no guarantee of future results. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.
The flock of fallen angels landing on the Bloomberg Barclays High Yield Indexes was paradoxically positive, leading the indexes generally higher:
“While the investment-grade indexes absorbed a lot of fallen angel pain, they’ve had quite the opposite impact since joining high-yield indexes.”
The shift, which Western Asset believes is far from ended, has made the ability of investment managers to analyze the longer-term financial health of fallen angels even more important than in more orderly markets, to potentially add to return or avoid unexpected losses.
COVID-19 is the World Health Organization's official designation of the current novel coronavirus disease. The virus causing the novel coronavirus disease is known as SARSCoV-2.
A fallen angel is a bond that was rated investment-grade but has since been downgraded to junk status due to the declining financial position of its issuer. The bond is downgraded by one or more of the big three rating services.
A rising star is a business or a company that is relatively new to the debt capital markets, with little or no history of debt repayment. However, because of a low credit rating, the company's bonds are often considered high risk, therefore offering a premium yield.
A credit rating is a measure of an issuer’s ability to repay interest and principal in a timely manner. The credit ratings provided by Standard and Poor’s, Moody’s Investors Service and/or Fitch Ratings, Ltd. typically range from AAA (highest) to D (lowest). Please see www.standardandpoors.com, www.moodys.com, or www.fitchratings.com for details.
Moody’s Investors Service, Fitch Ratings and Standard & Poor’s Ratings Service are nationally recognized statistical rating organizations (NRSRO) in the business of assigning ratings to bonds as they are issued.
An investment-grade (IG) rating (AAA, AA, A, BBB for example) is one that indicates that a municipal or corporate bond has a relatively low risk of default. Bonds with below investment-grade ratings (BB, B, CCC for example) are considered low credit quality and have a higher risk of default.
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