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Defaults among low-quality companies at 2007 lows

·3 min read

The market for some of the junkiest junk debt has never been better, as plentiful sources of funding keep companies on the brink alive.

According to BofA Global Research, there was not a single default for a CCC-rated issuer in the last three months. The last time that happened: the March to May period of 2007.

“Apparently, in this market, nobody is allowed to default,” BofA’s credit strategists wrote in a note Friday.

Corporate bonds are graded depending on their level of risk. An AAA means excellent credit quality, whereas anything lower than a BB is generally interpreted to be “speculative-grade” or “junk.”

CCC is often a warning of a company’s vulnerability to not being able to make its interest payments, whereas a D would effectively signal a default (the letter scales vary slightly among the ratings agencies).

But low-quality issuers, like those with debt-rated CCC, have had no problem issuing new debt in 2021. BofA noted that a total of $64 billion in CCC issuance has been priced so far year-to-date, which it projects to reach $85 billion for the full year.

CCC par default rates spiked during the pandemic but fell sharply in 2021. Source: BofA Global Research
CCC par default rates spiked during the pandemic but fell sharply in 2021. Source: BofA Global Research

That would be an all-time record high for CCC issuance, blowing past the prior record of $72 billion in 2013.

“As anomalies go, chances are things will begin to normalize as factors that underpinned the extreme deviation make way to new ones pushing things in the opposite direction,” BofA predicted.

Lots of support

Late 2020 saw a large spike in CCC defaults, as companies hobbling through the pandemic ultimately collapsed.

High-contact, in-person industries like retail and dining were particularly affected. Among the major names filing for bankruptcy in the winter last year: boutique chain Francesca’s, music store Guitar Center, and ice cream shop Friendly’s.

But the vaccination campaign and economic re-opening in early 2021 quickly reversed the trend, as boosts from the late-2020 stimulus package (under the Trump administration) and the early 2021 follow-up bill (from the Biden administration) shored up household income to spend.

The Federal Reserve has also signaled its support of corporate debt markets when it used emergency authorities to buy bonds in the depths of the pandemic last year. Although those purchases mostly targeted investment-grade debt, it bought some junk bonds that experienced downgrades during the pandemic (called “fallen angels”).

Today, the Fed’s easy money policies are continuing to support credit issuance, as ample liquidity and low interest rates drive investor appetite for even the riskiest corporate debt.

But the financial woes of Chinese conglomerate Evergrande have served as a cautionary tale over the perils of leverage building up in an economy. For the U.S., Fed Chairman Jerome Powell noted that Evergrande’s systemic risk appears “very particular” to China.

“I wouldn't draw a parallel to the United States corporate sector,” Powell told reporters on Sept. 22.

Brian Cheung is a reporter covering the Fed, economics, and banking for Yahoo Finance. You can follow him on Twitter @bcheungz.

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