Does it look to you that the economy is about to Tank? Companies have not been in such shape since the Depression
$88 billion in debt may become junk
By CAROLINE SALAS
More than $88 billion of U.S. corporate debt is teetering on the edge of investment grade and soon may join the record amount of bonds downgraded to junk this year.
Hertz Corp., the world's largest car rental firm, and radio broadcaster Clear Channel Communications are among 46 companies that probably will be categorized as noninvestment grade, according to credit-rating company Standard & Poor's.
A surge in debt-financed takeovers and concern that higher oil prices will hurt profit growth is eviscerating credit quality in the $5 trillion market for corporate bonds, according to some strategists.
Investors face greater risks, while companies once considered safe and now classified as so-called "fallen angels" may see borrowing costs rise.
Not since the Depression of 1929 has corporate America received so many black eyes. General Motors, the world's largest automaker, Sears Holdings Corp., the biggest U.S. department store chain, and Eastman Kodak Co., the largest photography company, led 27 borrowers whose $499 billion of outstanding debt obligations suffered the ignominy of being downgraded to junk.
And if history is any guide, there will be no rebound soon. "You don't see companies get downgraded and work their way up, by and large," said Greg Peters, head of U.S. credit strategy at New York-based Morgan Stanley.
Peters should know. His firm helped the finance unit of Ford Motor Co., the second-largest U.S. automaker, sell $750 million of bonds in March that S&P lowered to BB+, or junk, on May 5. Bonds rated below BBB- at S&P or below Baa3 at Moody's Investors Service are considered junk.
Twice the default rate
Fallen angels default at almost twice the rate of companies that never had investment-grade ratings, and seven of 10 stay junk, S&P said in a March study analyzing 24 years of data. The junk bond market is about $1 trillion in size.
"The credit cycle has probably already peaked," said Steve Kellner, head of credit portfolios at Newark, N.J.-based Prudential Investment Management's fixed-income group. The firm manages $163 billion in fixed income, including $13 billion in junk bonds.
S&P last week put the debt of GM and Ford under review for another downgrade because of concerns about North American losses and high gasoline prices. GM is rated BB by S&P, or two levels below investment grade.
The combined $320 billion in bonds sold by GM and Ford sent the dollar value of fallen angels past the $202 billion record set in 2002, which included the WorldCom downgrade.
The number of companies that became fallen angels this year is eight more than the same period of 2004. Hertz, which is the target of a leveraged buyout, and San Antonio-based Clear Channel, the biggest radio broadcaster, have the lowest investment-grade credit ratings, and may be lowered to speculative grade, S&P said.
618 companies on the brink
Overall, 618 companies are on the verge of having their ratings cut, compared with 318 that are poised for an upgrade, S&P said.
The firm has tracked the data for less than a year.
Companies with the highest junk ratings pay about 90 basis points, or 0.90 percentage point, more in yield than companies at the lowest end of investment grade, according to Merrill Lynch & Co. index data.
The difference represents an extra $900,000 in annual interest expense for every $100 million borrowed. The gap averaged about 104 basis points in 2004.
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