LONDON: A wave of credit rating downgrades in the corporate sector risks deepening a funding crisis for company bosses and spreading it to other markets.

The coronavirus’ sucker punch to the global economy has prompted Moody’s rating agency to review its corporate ratings, the agency told Reuters this week, with a slew of downgrades or downgrade warnings on the cards.

A credit rating cut is a blow for a company in any circumstance, making it more expensive to raise fresh debt or refinance existing bonds. But it is potentially devastating when markets are in a panic and company cashflows are shrinking.

A downgrade to ‘junk’ status, the lowest credit rating indicating a higher risk of default, forces investors to scatter because many asset managers cannot hold junk-rated debt. Without any willing buyers, the risk is a panicked sell-off which could also spread to other markets.

Moritz Kraemer, a former top sovereign analyst at S&P, likened the risk to when Greece lost its investment grade as the euro zone debt storm was whipping up.

“There was no one to catch the knife when it fell,” he said. “As the ratings get pushed down there are not enough junk grade investors to absorb it all.”

S&P upped the ante on Friday cutting two of Europe’s biggest flag carriers British Airways’ owner IAG and Germany’s Lufthansa to the last notch of investment grade and warning they could be downgraded again.

With certain sectors such as airlines, travel and energy badly hit, S&P has said it now sees default rates in the United States surging past 10 per cent having only last month expected 3.5pc, and Fitch is firing warnings too.

Adding to the sector’s vulnerabilities, the squeeze on ratings comes when the corporate sector is more vulnerable than it was 10 years ago. Low interest rates have encouraged companies to gorge on record amounts of cheap debt — globally corporate debt has risen more than 50pc since 2008 to over $72 trillion, Bank for Inter­national settlements (BIS) data shows.

At the same time, the creditworthiness of companies has weakened. The share of bond issuers with the lowest investment grade rating — BBB- for S&P and Fitch or Baa3 for Moody’s — has risen to around 45pc in Europe from around 14pc in 2000, and to 36pc in the United States from 29pc, BIS analysis shows.

In its last annual report, BIS said a drop in ratings could lead investors to “shed large amounts of bonds quickly”, leading to “fire sales”.

A panicked sell-off is not a given, however. Over the past few weeks, central banks and governments have laid out trillions of dollars in various programs to support financial markets and companies.

The Trump administration is considering bailing out airlines and other companies hit by the crisis and countries from Germany to Japan are all setting up super-sized crisis funds.

That support will count as credit agencies examine what to do.

Published in Dawn, March 21st, 2020