JPMorgan Chase – J.P. Morgan Sees $280B of ‘Rising Stars’ by 2022. How to Sift Through the Junk
The investment-grade bond market could see some new entrants—or returning names—in the next two years, as corporate credit ratings get upgraded. But the net downgrades aren’t over yet, according to
The next two years could bring $284 billion of “rising stars,” or companies with ratings that get upgraded to investment-grade levels from junk, according to a Feb. 24 note from the bank’s credit strategists.
Their forecast is more muted for this year, however. The bank expects $38 billion of “fallen angels,” or companies that get downgraded to junk from investment-grade in 2021, compared with about $31 billion of rising stars.
That means they expect more investment-grade bonds getting downgraded to junk this year than the other way around. Some of the names at “moderate” risk of downgrade to junk include
SL Green Realty
(KSS), the analysts wrote.
For investors, that is a sign that the pandemic fallout may not be entirely over for investment-grade companies, whose bonds are also facing risk from rising long-term Treasury yields. Downgrades generally come with marginally higher borrowing costs, though yields (and implied borrowing costs) in junk-bond markets are still near record lows.
Of course, $38 billion of fallen angels isn’t nearly as severe as last year, when more than $150 billion bonds were downgraded, according to Bank of America. And unlike last year’s record-setting spate of downgrades, most of this year’s fallen angels may be offset by the $31 billion in upgrades that J.P. Morgan forecasts.
The picture also gets brighter for corporate credit quality starting in 2022, in the J.P. Morgan strategists’ view. They forecast $253 billion of rising stars that year. The bank’s analysts predict the most debt to be upgraded in the telecommunications sector, and name
(ticker: TMUS) as one high-profile candidate. They expect the second-most debt to be upgraded from the auto sector, with names including
(F) on the list. Another potential 2022 upgrade is
(NFLX), the analysts wrote.
A flurry of upgrades in 2022 could give a temporary boost to high-yield bond indexes, all else equal. Bond prices tend to reflect ratings changes months before those changes actually occur, which means that junk-bond investors would own bonds priced like investment-grade securities for a while before those bonds were actually upgraded into investment-grade markets.
What’s more, last year’s high-yield bond defaults, making up about 6.8% of the index, leave “the [high-yield] index about as ‘clean’ as it has ever been, with some of the companies which survived the recession last year poised to benefit from the expected economic boom in the coming quarters,” the bank’s strategists wrote.
The question for the investment-grade bond market is how high rising-star bonds are eventually upgraded. If the bonds are upgraded into the lowest three rating tiers of that market, known as the BBBs (bonds rated BBB+, BBB or BBB-), that could weigh down the overall credit quality of the index. But come 2022, such a move could provide some extra yield, which investors have struggled to find.
Write to Alexandra Scaggs at firstname.lastname@example.org