In its first web stream (of many more to come!) our society hosted Martin Fridson, Global Credit Strategist at BNP Paribas.
In his “Outlook for High Yield Bonds”, Mr. Fridson mentioned that what was so special in this crisis was that never before had there been such a huge leveraged loan market. At its peak, CLOs bought two thirds of all loans. When structured finance came under a cloud, CLO production stopped. With these huge buyers not available for refinancing those loans, the FED injected liquidity; one third was refinanced, and the rest had to be rolled over.
Defaults are highly concentrated in the highest risk category, and Moody’s Speculative Liquidity ratings are good indicators of near-term default risk. As CCCs experience their peak default rate in Year 3, and with Global CCC issuance having peaked in 2007, 2009 saw a peak in defaults. With 2010 having been an active CCC issuance year, 2012 should again see more defaults, but less than in its peak year 2009. This projected rise in the default rate is baked into the numbers and not a sign of deteriorating conditions.
In the second part of his presentation, Mr. Fridson talked about the methodologies used for comparing default risk and risk premium. In his opinion, a “distressed ratio” model focusing on five factors driving the High-Yield-Spread versus Treasuries, namely the default rate, industrial production, capacity utilization, credit availability and Treasury yield, gives the best result.