Bond Downgrades Subsiding

July 28, 2020

As a key indicator that we have come a long way from the late-March panic and that both the economy and financial markets are steadily recovering from the COVID-19 pandemic, downgrades of bonds by the bond ratings agencies such as S&P and Moody’s have been experiencing a sharp decline. Our chart this week profiles the weekly downgrade volume of U.S. investment grade corporate bonds — excluding financials — showing a precipitous drop in weekly downgrade volume from the March peaks. The reduction in downgrades for investment grade financials, as well as for both high yield bonds and bank loans, are following a similar trend, though are not shown in the chart.

Bond agencies have become more comfortable with bond issuers’ abilities to cover their debt expenses due in large part to (1) vaccine progress, (2) the commitment to stimulus by global governments, and (3) re-openings. The vaccine remains the ideal solution to this pandemic and progress has improved since March. Today, a number of vaccine candidates are in Phase II human trials, with one that began Phase III yesterday. Moderna’s vaccine started Phase III on Monday, overseen by the University of Illinois at Chicago. Pfizer/BioNTech’s candidate has been shown to produce more antibodies than those produced by people who have recovered, and last week they received from the Department of Health and Human Services and the Defense Department an order of 100 million doses for $2 billion. Oxford/AstraZeneca’s candidate has been shown to produce antibodies that may fade but it helps produce killer T-cells that may stay in circulation for years and may kill cells infected with the virus. With regard to stimulus, Senate Republicans and the White House announced a stimulus package yesterday to follow the handful of COVID-19 stimulus packages that have preceded it this year. Congress is currently working on closing the gap between this $1 trillion CARES 2.0/Safe to Work Act put forth by Senate Republicans and the $3 trillion HEROES Act put forth by House Democrats. Marquette will provide a detailed assessment of this latest package and its implications as soon as it is signed by Trump. Moreover, the Treasury continues to have the ability to issue debt at current debt-to-GDP levels in order to fund further stimulus.

All this progress is balanced by several challenges, however, with the markets having priced in the last few weeks’ rise in cases, especially from Texas and Florida — the new epicenters — and the re-closings of restaurants and bars by several states including Illinois and California, along with recent resurgences in certain countries abroad. Hospitalizations and mortality have not risen as much as cases, however, so this resurgence may be attributed to the rise in testing detecting less-serious cases, which is potentially a positive in curtailing super spreaders. As the pandemic and its recovery gradually unfold, the markets are starting to price in more non-COVID developments, such as the Biden vs. Trump campaign and recent U.S.-China tensions. The U.S. ordered China to close its consulate in Houston last Tuesday, and China took over the premises of the U.S. consulate in Chengdu, a southwestern city. Marquette will continue to assess and issue guidance on further developments related to the pandemic, the recovery, and other geopolitical events.

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