Study: ‘Fallen Angel’ Bonds Hold Promise

Bonds of companies that recently lost their investment-grade credit ratings may prove riskier in the near term but safer over the long term than other “junk” bonds, Standard & Poor’s said in a new 21-year study of corporate credit histories.

The report is significant for holders of bonds from forest products giant Georgia-Pacific Corp., phone company Qwest Communications International Inc. and others that in recent months slid from investment grade to junk status.

It also may challenge the wisdom of investors who flee so-called fallen angels, fearing they might own the next WorldCom Inc., for example.

Fallen angels at first “may have more trouble accessing capital markets,” said Brooks Brady, associate director for corporate default research at S&P; Risk Solutions. But “if they can survive a little while and get their balance sheets in order, fallen angels may actually rise again to the ranks of investment-grade, or have a lower chance of defaulting.”

Last year, S&P; downgraded a record 84 U.S. companies from investment grade to junk status, including Qwest, WorldCom and a slew of energy companies.

In its study, S&P; examined the credit histories of U.S. and Canadian corporate issuers between 1981 and 2002.

It said the “mortality rate,” or speed with which a fallen angel defaults after an initial downgrade to junk status, is highest in the first quarter after the downgrade.

But after a year or so, fallen angels become less prone to default, it said.

However, S&P; conceded that this pattern has been broken in recent years. Since 2000, defaults by “fallen angel survivors” -- companies that fell to junk status but did not default during the year in which they were downgraded -- equaled or exceeded defaults by issuers rated junk to begin with. Examples of such survivors that later did default include Kmart Corp. and Polaroid Corp.