8 de febrero de 2016 / 8:14 / en 2 años

RPT-Fallen angels loom over European bond market

(Repeats story published Friday to reach additional subscribers)

* Investment-grade firms threatened with downgrades

* Commodities and energy exposure weigh

* Investors faced with opportunities and pitfalls

By Robert Smith

LONDON, Feb 5 (IFR) - Analysts expect billions of euros of investment-grade corporate bonds to come crashing down to junk, and while the market is better prepared than ever to smooth the transition, there is still scope for some nasty shocks.

Fears over a fresh wave of fallen angels - companies that lose their investment-grade status - have already gripped the US market, with CreditSights recently warning that as much as US$74bn of energy bonds could drop to high-yield.

But while the European capital markets have poured less money into the oil and gas sector, there are still plenty of businesses under pressure from sinking commodities prices or badly timed bets on emerging markets.

There are 28.5bn of BBB and BBB- rated European corporate bonds under negative watch from ratings agencies, according to Bank of America Merrill Lynch credit strategists. They expect 25bn to slip into high-yield indices in the medium term.

Fallen angels historically caused a lot of disruption as they moved from one benchmark to another, but changes to bond fund mandates have minimised this in recent years.

As yields have ground to historical lows, investment-grade portfolio managers have added Double B bond buckets to their funds. This has meant that recent fallen angels such as Tesco have actually rallied after their downgrade.

The BAML strategists note that 88% of fallen angels have remained in the Double B space. But for names that remain on a downward trajectory, life can be tough.

Martin Reeves, head of global high-yield at Legal & General Investment Management, said that when fallen angels need to refinance it can create tension between the issuer and bond investors, as the borrower is accustomed to weaker covenants normally provided to investment-grade buyers.

“The higher expectations of high-yield buyers can be a shock. How that tension is resolved depends on how desperate the issuer is,” he said.

LOSING IMMUNITY

Until now, concerns around the energy and commodity sectors had mainly been centred on the US high-yield market. However, it might not be the case for long, as looming downgrades could change the playing field for junk bond investors.

“One of the saving graces of European high-yield has been its minimal exposure to energy and commodities,” said Peter Aspbury, a portfolio manager at JP Morgan Asset Management.

“But there are a growing number of fallen angel candidates that will most likely increase the market’s exposure to these industries, perhaps no more so than to the metals and mining sector.”

Glencore and Anglo American - both on the bottom rung of investment-grade - would make up around 5% of the Merrill Lynch Euro High Yield Index if they were downgraded, for example. Despite their investment-grade ratings, both have bonds trading at double-digit yields.

Mitch Reznick, co-head of Hermes Credit, said that aside from the spread volatility and impact on benchmarks, fallen angels often present great opportunities for credit investors.

“For various reasons - both practical and sentimental - they hate losing their investment-grade status. So, in response, they often take very credit-friendly actions to prevent themselves from falling further or to set themselves on a path to return to high-grade.”

A slew of formerly investment-grade companies have announced capital raises this year, with France’s Vallourec and Arcelor-Mittal planning 1bn and US$3bn rights issues, respectively.

FALLEN ANGELS OR FALLING KNIVES?

In Vallourec’s case, however, this has not been enough to stem further downgrades, as S&P cut it two notches to BB- on Tuesday.

The company makes pipes for the oil industry and has high exposure to Brazil, leading one high-yield fund manager to call it “the exact opposite of what bond investors want”.

He said that psychologically it could take a lot for the ratings agencies to downgrade some names to junk, particularly if it suggests they have made the wrong call.

“But once they’ve made that first step it becomes a lot easier for them to downgrade further, which is why some names that have always had questionable IG ratings fall fast and hard when they finally make the transition.”

French nuclear power group Areva has caused bondholders pain, as S&P slashed its rating three notches from BBB- to B+ in just over 12 months. While bond prices held up during the initial downgrades, they capitulated when Areva slipped to Single B, as investment-grade funds could no longer hold the notes in their Double B baskets.

Ratings agencies such as S&P have come under fire from some quarters recently, with prominent short-seller Muddy Waters last month accusing it of miscalculating French retailer Casino’s Ebitda and net debt figures.

S&P placed the company’s BBB- rating on CreditWatch negative a week later, although a spokesperson for the agency told IFR that this was triggered by weak trading results. (Reporting by Robert Smith; Editing by Philip Wright)

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