S&P: September global junk rate falls to 1.61%

By Caroline Salls

Pittsburgh, Oct. 6 - The global corporate speculative-grade bond default rate fell to 1.61% at the end of September, down from 1.79% a month ago but marginally higher than the eight-year low of 1.58% recorded in March 2005, according to a Standard & Poor's report.

The global speculative-grade default rate has remained below the long-term 1981 to 2004 average of 4.95% for 22 consecutive months but is still higher than the record low of 1.28% posted in the second quarter of 1997.

The near-term default outlook has been mostly optimistic based on expectations of relative economic stability, relatively favorable financing conditions and healthy corporate profitability, the report said.

S&P said the global default rate is expected to edge up slowly before the end of 2005. In the United States, results from a proprietary default forecast model indicate that U.S. speculative-grade default rates will continue to edge up slowly over the next few quarters, reaching 2.8% by the third quarter of 2006.

The average 2.6% forecast for the next four quarters, however, is slightly higher than the historical 2.1% average of the trailing four quarters.

As of Oct. 6, a total of 19 entities remained vulnerable to default on $4.9 billion of rated debt, which is even with the totals from a month earlier but lower than the average of 30 entities recorded over full-year 2004.

Bond spreads on speculative-grade issues have already turned around from their record lows, even though some of the widening seen in April and May evaporated in the third quarter, the report said.

A gradual widening in the 340 basis points to 375 bps range will continue in the rest of the year.

At 39%, the proportion of lower-grade issuance was also high in Europe in the first three quarters of 2005. Although slightly slower than the 45% pace set in 2004, it has remained at more than 30% for eight consecutive quarters.

The decline in the speculative-grade default rate has been accompanied by a visible easing of lending conditions, especially in the United States, as reported in the Federal Reserve Loan Officer Opinion Survey on Bank Lending Practices.

In the latest survey, conducted in July, a net percentage of 17% of domestic banks reported easing standards for large and midsize firms. The net percentage of banks reporting easing standards for small firms decreased to 11% in July from 24% in April.

Institutions that reported easing of lending standards in the past three months cited more aggressive competition from other banks or non-bank lenders as an important factor in their decision. Furthermore, the proportion of distressed credits in the United States declined in 2003 and appears to have bottomed out in 2004 and early 2005, according to S&P. The distress ratio was 5.6% at the end of September, which is less than the 7.0% average for full-year 2004.

Autos, telecoms weak

Weakness was centered in the automotive and telecommunications sectors, which together account for more than 40% of the total number of distressed issues.

Default rates in the U.S. leveraged loan market have also remained muted, inching up to 1.34% at the end of September compared with 1.12% at year-end 2004.

S&P said defaults in the remainder of 2005 are expected to remain subdued in this segment though higher than the lows of a year ago.

Three defaults in emerging markets have been observed in the trailing 12 months: OAO NK Yukos of Russia, Administracion Nacional De Combustibles Alcohol Y Portland of Uruguay and one confidentially rated corporate default.

In the first three quarters of 2005, 29 defaults have been recorded, affecting rated debt worth $26.2 billion compared with a total of 49 defaults in full-year 2004 affecting debt outstanding worth $16.2 billion.

In September, five defaults were recorded, including U.S.-based Delta Air Lines Inc. and Northwest Airlines Corp., Entergy New Orleans Inc. and Charter Communications Holdings LLC.

One other default was recorded for an entity that is no longer rated.

The dollar amount of debt defaulting year to date more than tripled relative to a month ago, to $26.2 billion through September from $8.3 billion through August.

The large dollar volume of defaults is primarily because of Charter Communications Holdings LLC, Delta Air Lines Inc. and Northwest Airlines Corp., according to S&P.

Of the total recorded in the year to date, the United States recorded 24 defaults affecting rated debt worth $25.8 billion. Five other defaults recorded in 2005 were based in Japan, Canada, Sweden and Uruguay.

In the United States, the share of new issues rated B- and lower as a proportion of total speculative-grade issuance was 41% in the first three quarters of 2005, roughly even with the 43% average recorded in full-year 2004 but higher than the 31% average recorded in full-year 2003.

After a sharp run-up in 2004, issuance rated CCC+ or lower has stabilized (based on both issue count and volume) in the year to date, reaching 16.0% as a share of total speculative-grade issuance during the first three quarters of 2005 from 16.4% in 2004.

In the first three quarters of 2005, the share of issuance volume rated B- or lower to total speculative-grade issuance was especially high in the broadly defined industrial sector.

More specifically, health care was the leading issuer in the year-to-date, with $3.2 billion in issuance occurring in the corporate health care segment, other industrial sub-sectors, such as consumer products, media and entertainment and retail/restaurants, each issued more than $1.5 billion during the first three quarters combined.

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