Fastest Pace Of Downgrades Ever (Since 2002)

The rating agencies often receive a lot of criticism for downgrading/upgrading businesses after a negative/positive catalyst occurred. This time is slightly different because COVID-19 was an unprecedented event; it’s difficult to have expected preemptive cuts. The biggest source of criticism comes from the 2008 financial crisis in which mortgage backed securities weren’t properly rated. Even so, ratings have a strong correlation with default rates. It’s valuable to review them in a macro sense even if they can be delayed.

As you can see from the chart above, the current pace of downgrades is the strongest on record (since 2002). This is based on rolling 2 week net rating changes; the change is calculated by the number of notches changed (upgrades minus downgrades) multiplied by the notional value of the debt. This has been a record setting recession because everything happened all at once.

It’s very important to not assume the pace of stock market declines will continue at such a rate just because the crisis is only 1 month old in America. Keep in mind, that the housing sector had been weak years before the financial bailouts and Lehman Brothers failed. We got the bailouts and the Fed buying corporate bonds about a month after the crisis hit. The timeline is sped up.

Big Energy Meltdown

A big reason there have been so many downgrades is the energy companies are highly indebted and are in trouble. Oil prices are falling because of the price war with Russia and Saudi Arabia and because the recession means demand is weak. It’s the worst case scenario for drillers. Plus, these firms hadn’t been in great shape before this as oil prices had been low. Sustained low oil prices are much worse than weak prices for a few weeks partially because of hedging. There have been $84 billion in fallen angels in March. Ford was downgraded to junk ($36 billion). There’s also Occidental Petroleum ($29 billion) which was hurt by the poor timing of its Anadarko acquisition. There also seems to be a very poorly timed acquisition to mark the top in an oil cycle, not that 2019 was close to as good for oil firms as the first half of 2014 was.

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