Capital Markets

Sad Refrain: Credit Ratings Still Weak

Potential downgrades are still at a historic high level, with the U.S. mortgage industry leading the way.
Stephen TaubJuly 23, 2008

Is the credit crunch starting to ease? It would be possible to come to that conclusion from a quick glance at one measure. By Standard & Poor’s count, the potential global downgrade count for this month stands at 745 — four fewer than last month’s all-time high, and the the first time in 14 months the number has decreased.

But don’t get too excited. S&P said the dip is largely because a number of potential downgrades became actual downgrades, not because of an improvement in those companies’ creditworthiness.

Potential downgrades are defined as entities that have either a negative outlook or ratings on CreditWatch with negative implications across rating categories ‘AAA’ to ‘B-‘.

In fact, the number of potential downgrades is 124 more than in the same period a year ago, when a material erosion of the residential real estate sector and large write-downs by financial institutions sparked an upsurge of downgrade potential, S&P noted.

Geographically, the United States continues to top the list, with roughly a quarter of current ratings by U.S. companies at risk of downgrades.

It’s no surprise that, by sector, mortgage institutions recorded the highest ratio of issuers with a negative bias relative to their total rated universe. They were followed by brokerage companies and forest products and building materials.

Consumer discretionary sectors — including media and entertainment and consumer products — are poised for deterioration because of lessened credit availability and weakening demand, S&P explained.

In a separate report, S&P said that through mid-July, 42 global companies have defaulted this year, affecting debt worth $33.6 billion. This already surpassed the 22 defaults recorded in all of 2007 and 30 defaults in 2006.

Of the 41 defaults, 40 are by companies located in the United States, one in Canada.

The United States also leads in the number of weakest links — entities that are closest to the default threshold — with 118 (81 percent) of the 145 entities.

The rating agency pointed out that through the first half of 2008, defaults have increased significantly in the United States but remain scarce elsewhere.

For example, the 12-month trailing global corporate speculative-grade bond default rate declined slightly, to 1.44 percent in June from 1.45 percent in May. It also remained below its long-term average of 4.35 percent for 53 consecutive months.

However, the U.S. speculative-grade default rate continued to increase, topping 1.92 percent in June, up from 1.89 percent in May and a 25-year low of 0.97 percent at the end of 2007.