We believe the investment-grade bond sector is now riskier than it has been in recent years due to the rapid increase in the share of BBB-rated members. In a downturn, BBB-rated bonds are the most vulnerable of all investment-grade debt. Any downgrade of these bonds would consign them from the investment-grade universe to the high yield universe (creating “fallen angels”), lowering their value.
Morgan Stanley discovered that during prior credit downturns, considerable volumes of BBB-rated bonds were downgraded. Between 23 percent and 45 percent of investment-grade bonds were downgraded to junk during the downturns of 2007-09, 2000-03, and 1989-91. If downgrade rates maintain at current levels, nearly $600 billion in BBB bonds might be reclassified as junk in the next downturn. 2
Companies may be able to protect their ratings
Some of the highest-leveraged BBB-rated debts will almost certainly be reduced to high yield. Many businesses, on the other hand, have instruments at their disposal to help them protect their credit rating.
Given that many of these businesses rely on investment-grade capital markets to support their operations, a sizable chunk of the BBB universe is keen to maintain their investment-grade status. Companies can reduce or terminate stock dividends, share repurchase programs, and M&A activity if they are downgraded.
Is a BBB bond grade acceptable?
Ratings firms investigate each bond issuer’s financial condition (including municipal bond issuers) and assign ratings to the bonds on the market. Each agency follows a similar structure to enable investors compare the credit rating of a bond to that of other bonds. “Investment-grade” bonds have a rating of BBB- (on the Standard & Poor’s and Fitch scales) or Baa3 (on the Moody’s scale) or higher. Bonds with lower ratings are referred to as “high-yield” or “junk” bonds since they are deemed “speculative.”
Are B-rated bonds dangerous?
Bonds with credit ratings below these categories (“BB,” “B,” “CCC,” and so on) are referred to as “junk bonds” because they have a low credit grade. Credit ratings are crucial because they communicate the risk of investing in a particular bond.
Are corporate bonds issued by banks safe?
Corporate bonds are a great option for investors who want a steady but greater income from a safe investment. When opposed to debt funds, corporate bonds are a low-risk investment vehicle since they guarantee capital protection. These bonds, however, are not completely safe. Corporate bond funds that invest in high-quality debt securities can help you achieve your financial goals more effectively. When interest rates fluctuate more than expected, long-term debt funds become riskier. As a result, to mitigate volatility, corporate bond funds invest in scrips. They normally aim for a one- to four-year investing horizon. If you invest for at least three years, you may receive a bonus. If you are in the highest income tax bracket, it may also be more tax-efficient.
Are corporate bonds with an A rating safe?
Public and private companies can both issue corporate bonds. The most dependable (and least dangerous) bonds are triple-A rated (AAA). Corporate bonds with high ratings are a stable source of income for a portfolio. They can assist you in accumulating funds for retirement, college, or unexpected needs.
What does it imply to have a BBB bond rating?
The BBB grade indicates that the danger of default is now minimal. Although the capacity to pay financial obligations is considered adequate, poor business or economic situations are more likely to erode it.
What types of businesses have a BBB bond rating?
Due to loan repayments at AT&T and General Electric, which offset United Technologies’ and Broadcom’s borrowing to fund acquisitions, debt levels and leverage for the top 10 borrowers have declined marginally this year. Weighted average leverage has fallen marginally, to 3x in mid-2019 from 3.2x at the end of 2018.
In 2020, we predict credit metrics to improve further, with the bulk of the top ten keeping reasonably constant metrics and a few achieving more significant improvements. We expect leverage to drop at General Electric, CVS Health, and United Technologies in 2020, mostly as a result of asset sales, sustained debt payments, and an all-stock merger, respectively.
Meanwhile, the top 10’s downgrade risk and upgrade potential are fairly matched. In reality, Verizon and United Technologies are both rated ‘BBB+,’ the highest rating in the ‘BBB’ category. Verizon’s rating outlook is positive, while United Technologies’ rating is on CreditWatch with positive implications, implying that both businesses could be upgraded to the ‘A’ category in 2020.
Verizon’s focus on debt reduction should enable it to achieve adjusted leverage of 2.5x by 2020. The company’s leverage was 2.7x as of June 2019, and we believe it has good prospects to reduce leverage to below 2.5x, which is our threshold for an upgrade to ‘A-‘, by 2020. The proposed combination of Raytheon and United Technologies’ aerospace companies (Pratt & Whitney and Collins Aerospace) is intended to boost the merged company’s credit metrics, scale, and diversification. Once the transaction closes and we have completed our analysis of the transaction, we may upgrade our rating of the company up to two notches, to ‘A.’
Ford Motor Company, Energy Transfer L.P., and Broadcom Inc. all have a BBB- rating. These accounts for 27% of the top ten debts. The prospects appear to be stable.
Broadly Stable Leverage Expected For Top 10 ‘BBB’ Companies In EMEA
The 10 largest nonfinancial corporates we rate in the ‘BBB’ category in EMEA also have a considerable amount of debt—almost $800 billion (approximately €720 billion) of gross reported debt outstanding (as of June 30, 2019). (as of June 30, 2019). At around one-third of the $2.3 trillion borrowed by all ‘BBB’ category corporates in the region, we consider this to be a high degree of concentration. (Note that this figure differs from the $1.4 trillion of rated ‘BBB’ debt but includes all debt borrowed by these issuers). See table 4 in Appendix I for a comprehensive list of the top 10 ‘BBB’ EMEA corporations.
BBB debt accounts for what percentage of investment grade debt?
Around half of all investment-grade bonds traded in the United States are rated BBB or Baa. While that number lowers to 25% for all Canadian corporate bond issuances traded in the United States, it still represents a significant portion of the market.
Which bond is the most likely to default?
- Junk bonds, often known as high-yield bonds, are corporate bonds issued by corporations with a high risk of defaulting. To compensate for the danger, they provide higher interest rates.
- Preferred stocks are nominally stocks, yet they have the same characteristics as bonds. They make regular payments to you in the form of a predetermined dividend. In the event of a bankruptcy, they are marginally safer than stocks. After bondholders, but before common stockholders, holders are paid.
- Certificates of deposit are similar to bonds that your bank issues. You essentially lend your money to the bank for a set length of time in exchange for a guaranteed fixed rate of return.
Is it possible to lose money on a bond?
- Bonds are generally advertised as being less risky than stocks, which they are for the most part, but that doesn’t mean you can’t lose money if you purchase them.
- When interest rates rise, the issuer experiences a negative credit event, or market liquidity dries up, bond prices fall.
- Bond gains can also be eroded by inflation, taxes, and regulatory changes.
- Bond mutual funds can help diversify a portfolio, but they have their own set of risks, costs, and issues.