The fallen angel space is only growing, which means potentially more opportunity to invest in downgraded bonds at a discount. Over the last 10 years, rates have been low so companies have continued to issue more and more debt. However, the pandemic has caused lower corporate earnings and a weaker economic outlook. Now, some companies, which may not have been cautious enough, are being downgraded by rating agencies.
On the bright side, a higher amount of downgrades means more investors are forced into selling, which in turn means potentially larger discounts and higher returns. Over US$150bn has been downgraded year-to-date and we’re four months into it. That number has exceeded every full calendar year. On the sell-side, we hear analysts projecting anywhere from another US$200bn to US$700bn in fallen angel downgrades taking place from now until the end of this year.
Secondly, wider option-adjusted spreads (OAS) during March offer a wider entry point, which could, we believe, be more compelling to investors. At the moment, OAS spreads are at levels not seen since the Great Financial Crisis. Lastly, the US Federal Reserve is currently buying fallen angel bonds, which is supportive of valuations.
Manuel Hayes, senior portfolio manager of Mellon’s Efficient Beta Fallen Angel strategy, and Paul Benson, head of Fixed Income Efficient Beta at Mellon.