While European corporate ratings are still largely investment grade, the number of speculative-grade ratings has more than doubled over the last decade to a record high and increased lever
While European corporate ratings are still largely investment grade, the number of speculative-grade ratings has more than doubled over the last decade to a record high and increased leverage has lead to a deterioration in the credit quality of rated European entities, according to a report published by Standard & Poor’s Ratings Services.
The percentage of speculative-grade ratings in Europe increased to a record high of 18 per cent at the end of the second quarter of this year, up from 8 per cent in 1997, according to the report, entitled European Ratings Distribution: Rising Variation In Ratings Mix.
In recent years, a highly favourable cost of borrowing and rising risk appetite among investors has changed the leverage profile of rated European entities, S&P says, adding that continuing changes in corporate risk orientation and greater comfort among asset managers toward risk indicate that this downward shift is not likely to reverse.
‘The median rating among European non-financials has declined considerably in the past 15 years, but remains investment-grade at BBB, whereas its US counterpart is already speculative grade,’ says Diane Vazza, head of Standard & Poor’s global fixed income research group.
‘The decline in the median non-financial rating reflects in part an increase in the ratio of speculative-grade first-time issuers to all issuers from just under 23 per cent in 2001 to a peak of 46 per cent in 2004, and remaining high at 38 per cent in mid-2007.’
Vazza says the advent of private equity sponsors in the past three years has changed the landscape for European ratings and introduced new complexities, particularly for non-financial companies. In contrast with the US, sponsor-led activity provides the predominant source of deals in the European leveraged markets.
‘The phenomenal growth of privately funded sponsor-owned companies in recent years has resulted in much of the credit migration outside the scrutiny of the public debt markets,’ she says.
‘Through the extensive use of leverage and other equity-friendly strategies such as dividend recapitalisation plans, many companies operating in the private credit market may potentially be experiencing greater downward pressure on credit quality than is visible in the rated universe.’
The report confirms that the proportion of European entities with high levels of debt has also increased. At the end of June, 33 per cent of European entities had debt greater than EUR5bn, compared with 27 per cent in 2004. In recent years, a highly favourable cost of borrowing and rising risk appetite among investors has changed the leverage profile of rated European entities.
Most European non-financial sectors have exhibited a rising penetration of speculative-grade ratings in the past 10 years, albeit to varying degrees, with the noteworthy exception of transportation.
In the second quarter of this year, two sectors telecommunications and high technology had more entities rated speculative grade than investment grade, while the leisure and media sector remains just short of the 50 per cent mark. The corresponding percentage is much higher in the US, with nine sectors exceeding the 50 per cent speculative-grade threshold.
