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Is there a current risk of downgrades and fallen angels?

  • 19 October 2022 (3 min read)

Audio recording transcript:

So ratings have been quite a dynamic topic over the last several years. So clearly there was the post COVID shock with massive waves of downgrades and fallen angels, and, subsequently, we've seen the reverse and we've seen massive amounts of rising stars, you know, the T mobile, the Netflix, you know, HCA’s just to name a few that have occurred this year.

So, on average, there's still more upgrades and downgrades within high yield, but the pace has slowed, certainly, with the economic outlook. I think that the adjacent markets are something to watch for the ratings trajectory and what I mean by that is, I think, one of the more interesting places to look is the leverage loan market. So leveraged loans, the market has grown substantially and a large part of the leveraged loan market is owned by CLOs.

So CLOs have various over-collatorisation tests, among others, and they have limits on CCC buckets. So if you see a large wave of downgrades, if you did get material slowing within the US economy that resulted in downgrades of single B and low single B loans to CCC's, you could see a technical selling pressure within loans that might have a knock on effect to high yield, just being an adjacent market.

We've not seen a lot in the way of fallen angel risk yet. I think the BB's, the now BB's, many of which were formerly BBB's, there still seems to be a rising star trend that’s overwhelming any of the fallen angels.

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