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The world’s next rising stars of debt? Probably the company’s fallen angel

What happens around, comes around.

That is why investors are eyeing “rising stars”, or credit ratings, in US corporate debt after last year hit a record close to $ 250 billion “fallen Angel
+ 0.06%

from downgrade.

The pandemic may have changed a lot, but bond ratings are still important, especially for companies that have recently been downgraded to speculative territory, or “junk” or those that have been raised. Coveted investment.

“It’s a one-way transaction,” said Michael Collins, senior investment officer at PGIM Fixed Income, of his expectations for a wave of upgrades this year from risky ratings.

“We’re going to see one of the best income growth years ever,” Collins said, pointing to forecasts calling for highly regarded US companies to grow their near-term income. 25% over a year ago, when the first quarter earnings started the week.

This Goldman Sachs chart shows the historic flood of fallen angels to speculative level territory, or “junk bonds,” from investment levels in 2020.

Record debt fell from investment level to junk territory.

Data from Bloomberg, Goldman Sachs

More broadly, Collins also expects company cash flow to increase, reduce debt burden costs and let companies continue to borrow cheaply at today’s low interest rates, while improving their balance sheets. .

“We are in a rare part of the cycle where credit quality will improve over the next year or two,” he told MarketWatch. “It’s an environment where you want long credit risk.”

It’s a significant change in tone from last year, when the Federal Reserve started buying corporate debt for the first time, amid fears that fallen angels might invade fruit markets. Smaller garbage ballots and creating chaos.

Read: Why the Fed’s new index approach to buying US corporate debt ‘changes everything’

In the summer of this year, Moody’s Investors Service found that the star rating was rising to 11.3% in the 12 months ending July 2021, up from 3.4% a year earlier, when looking at the market. portion of US corporate bonds ready to see investment-boosting ratings ranked from the highest Ba1 “junk” category.

“This forecast, if realized, would be consistent with the pattern after both the 2001 and 2008 recessions, when the equivalent ratio increased to about 10 percent.
a year after post-recession lows of 4.3% and 6.3%, respectively, ”Moody’s team wrote in a note this week.

Investment firms still account for the largest share of the US $ 10.6 trillion US corporate bond market, often providing access to richer and cheaper capital than their counterparts. types of junk bonds are nearly 1.5 trillion USD.

“This year when the vaccine is released and the economy has stabilized, the rate of decline has slowed down from the previous quarter,” said Manuel Hayes, Mellon’s senior portfolio manager.

But Hayes also sees “winners and losers” emerging as larger bands of the economy reopen, potentially feeding another $ 100 billion corporate credit rating. .

“There is a lot of overlap between the two universes,” Hayes told MarketWatch, adding that many of the market’s biggest fallen angels in general are “big publishers born and raised like public companies. investment company, ”he said.

“Once you have access to that kind of capital, there’s a lot of incentive to go back to that cheaper level of funding.”

Ford Motor Co.
Occidental Petroleum Corp.

and Kraft Heinz Co

was one of last year’s biggest fallen angels, accounting for nearly $ 95 billion in total for the year, according to a MarketWatch census.

Last month, BofA Global analysts estimated that forced selling, caused by a downgrade, would cost around 47 basis points a year for investors in declining A-rated bonds. to BBB territory, while investors lose about 35 basis points per year on a bond originally ranked as BBB. was cut to trash.

On the other hand, investors like Hayes have long been preparing for rating changes that lead to a forced sell or buy.

“For the rising stars, you will see forced buying and selling,” says Hayes. “When these companies were upgraded, now all of the sudden, all of the investment-level managers have a new company in their universe. And as the index manager, you buy it, because you need that exposure. “



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