Late last week, Standard & Poor's published "Default, Transition, and Recovery: Global Short-Term Ratings Performance And Default Analysis (1981-2009)," a study of defaults in the commercial paper and other short-term money markets. Unsurprisingly, it says, "Consistent with all of our long-term default studies, our short-term corporate ratings performance analysis confirms that higher ratings generally correlate with greater stability and a lower likelihood of default, and vice versa. Defaults are rarer among short-term corporate ratings than they are among long-term corporate ratings. During the full sample period (1981-2009), global 'A-1+' rated entities had an average default rate of 0.0007% over a 30-day horizon, whereas global 'A-1', 'A-2', and 'A-3' issuers had average default rates of 0.005%, 0.004%, and 0.041%, respectively."
S&P explains, "The purpose of our study was to gauge short-term corporate ratings performance through the analysis of ratings changes as well as to provide a useful summary of the short-term default experience. Our study covers 4,466 financial and nonfinancial corporate obligors from 100 countries that had short-term local currency ratings from January 1981 through Dec. 31, 2009.... [T]he methodology does not differentiate between issuers that had commercial paper (CP) and other short-term securities outstanding at the time of default. The default and transition rates we refer to in this article are not instrument specific but rather are indicators of aggregated issuer behavior."
Among the main conclusions of the study are: "The difference in the cumulative default experience between Tier-1 ratings (generally defined as 'A-1+' or 'A-1') and Tier-2 ratings (generally defined as 'A-2' or lower) is clear as the time horizon grows longer.... [W]e observed the following default rates: 'A-1+' (0.002%), 'A-1' (0.016%), 'A-2' (0.023%), and 'A-3' (0.109%). At 12 months, cumulative average default rates were 'A-1+' (0.018%), 'A-1' (0.062%), 'A-2' (0.184%), and 'A-3' (0.633%). The short-term corporate market is generally regarded as a bastion of stability, with a low incidence of defaults. Between 1981 and 2009, only 118 issuers with short-term ratings (though not necessarily CP issuers) defaulted, in contrast with 1,933 defaults observed among companies with long-term ratings.... The annual short-term corporate default rate peaked in 2009 at 0.93%, exceeding the previous high of 0.73% in 2002."
The report says, "Defaults by companies with short-term ratings are fairly rare. In the 29 years we covered in our analysis, a total of 118 issuers with short-term ratings defaulted, which includes 35 companies that Standard & Poor's no longer rated at the time of default. Defaults have been sparse in most years, with only six years having more than three defaults and nine years having zero defaults. The median annual default count is two. Often, defaults (i.e., Standard & Poor's revising its ratings to 'D') occur long after a company's credit quality has declined past the point of where it could issue CP. Thus, defaults by companies with short-term ratings that also have outstanding CP are even rarer than the general default statistics in the study show."
It continues, "The paucity of defaults is not surprising because short-term paper typically provides a liquidity channel only for companies with superior creditworthiness. The credit standards for companies that tap this market are higher because investors in the short-term debt market are typically not looking for exposure to credit risk when they buy CP or other short-term debt. Moreover, the tight rollover schedule forces issuers to maintain greater discipline and results in an orderly exit mechanism, so only the most creditworthy borrowers are able to tap the market regularly."
They say, "Not surprisingly, defaults tend to be sparse in an average year and high in times of stress. Indeed, we see defaults clustered in just a few years. For example, 34 issuers defaulted from 2001-2002. The severe credit crisis and recession that began in 2008 spurred the worst two-year period in short-term corporate defaults in the 29-year history of our study. Between 2008 and 2009, 40 issuers defaulted, compared with just four defaults in the prior four years. In fact, the four years with the largest number of defaults (2001, 2002, 2008, 2009) accounted for approximately 63% of the 118 defaults that occurred in the 1981-2009 period."
Finally, S&P's default study says, "The short-term debt markets, which historically have been characterized by significant stability, have undergone a substantial transformation in light of the very high strain experienced in the past couple of years. This trend is especially noticeable in the U.S., where short-term markets -- among the world's deepest and most developed -- have retrenched, despite the overall stabilization in the financial markets. In the aftermath of the Lehman bankruptcy, the Federal Reserve played a substantial role in bolstering liquidity and available credit to the short-term funding market through the launch of special programs, such as the Commercial Paper Funding Facility (CPFF), the Money Market Investor Funding Facility (MMIFF), and the Asset-Backed Commercial Paper Money Market Fund Liquidity Facility (AMLF). The government is gradually ending these extraordinary measures."
It adds, "Nevertheless, note that the dollar amount of financial and nonfinancial outstanding CP has declined by one-third since its most recent peak in August 2008. The share of financials in total CP outstanding has increased to 52% from 46% because of larger declines in ABCP and nonfinancial CP. On a dollar basis, ABCP has led the decline, falling to $395 billion in April 2010 from $725 billion in September 2008 and $1,214 billion in July 2007."
