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Capital Markets

Spec-Grade Issuers Face Risks in 2018

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January 17, 2018

Moody’s: corporate refi risk declines but still historically high

Falling dollarThe last several years have been a debt-issuance funfest for speculative-grade corporates, but the large volumes of inexpensive capital they issued may soon come back to haunt them.

In its recently issued report, “Refunding Indicator: Spec-grade issuers still face refunding risk in 2018, despite good progress in 2017,” analysts at Moody’s Investors Service determine that while issuers have continued to reduce their refinancing risk, it remains historically high.

December marked the tenth consecutive month of year-over-year improvement for the rating agency’s Three-Year Refunding Indicator, which rose to 3.9X, up 16% from a year earlier. The Moody’s indicator seeks to gauge the market’s ability to absorb speculative-grade bonds maturing over the next 12 to 36 months, relative to the current pace of issuance.

“The indicator measures the market’s ability to absorb the maturities, so the higher the number, the more issuance there is relative to debt coming due,” said Anastasija Johnson, senior analyst at Moody’s.

While the three-year indicator rose in 2017 and 2016, it had declined from more than 10X in the latter half of 2013, and over the last 10 years it had only dropped below the current level in the wake of the financial crisis, when Wall Street had all but stopped underwriting debt offerings. And although the indicator did move up in 2017, as of December it remained below its long-term average of 6.2X.

“What we’re saying is despite the [strong] issuance, on a relative basis the market’s ability to absorb upcoming maturities is below the historic average, as we measure it,” Ms. Johnson said. She noted that the indicator does not predict future levels of default, in part because the level of debt issuance depends on several unknowable variables. However, the indicator reversing its current upward trajectory and heading toward levels seen following the financial crisis could spell trouble.

“Were the index to go down to similar levels, that would suggest we would see a wave of defaults going forward,” she said.

The report notes that strong high-yield issuance in 2017, totaling $300 billion according to Dealogic, drove the indicator higher. It cautions, however, that while the rising issuance has reduced the level of outstanding maturities, the “torrid pace” of new-debt issuance has also “increased the volume of debt that companies will need to refinance down the road.” The increase in new debt is part of the reason that the market’s ability to cover outstanding maturities, as measured by the three-year indicator, remains lower relative to the indicator’s 10-year average.

Another reason is that the three-year corporate bond maturities rated by Moody’s stood at $157 billion in December, only $1 billion below the all-time high reached in April. That’s more than 50% above the 10-year average of $97 billion in maturities. That high maturity schedule also played a role in pushing the indicator well below its long-term average, according to the report.

The report notes that short-term refinancing risk also remains elevated, at least for some companies.

“When compared to December 2016, refinancing conditions for Caa- and Ba-rated debt continued to improve, while conditions for B-rated debt worsened,” the report says, adding that shorter-term refunding risk also remains elevated moving into 2018. “The One-year Indicator is 26% below its historical average of 11.6X, which means that underlying refinancing risk also remains relatively high for shorter-term maturities.

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