Published on 26 Mar 2020.
RAM Ratings has released its latest annual Corporate Default and Rating Transition Study. The study provides an update on the credit performance of RAM’s portfolio through end-2019 and updated to 1Q 2020, amid the rapid spread of Covid-19.
GDP growth was expectedly more moderate y-o-y in 2019, coming in at 4.3% (2018: 4.7%) owing to global headwinds. While some respite had initially seemed within reach for 2020, the world was turned upside-down by the pandemic of unprecedented magnitude. The collapse of crude oil prices to all-time lows in the wake of a breakdown in the OPEC+ agreement further aggravated the challenging situation.
At the time of writing, many governments have implemented lockdowns and aggressively rolled out mitigating measures, cut rates, launched emergency funding programmes and other fiscal and financial relief initiatives in all-out drastic efforts to alleviate the adverse impact of Covid-19. On the home front, the Movement Control Order has been extended to a full month until mid-April 2020 and Bank Negara Malaysia had cut the Overnight Policy Rate twice to 2.5% as at March 2020, besides instituting an extensive automatic 6-month moratorium on loan repayments affecting over 70% of Malaysian banks’ loan book and other supportive measures.
Given the unprecedented nature of the pandemic, it is difficult for anyone to estimate with much certainty the full impact on the economy. As each crisis in the past – and certainly this pandemic – has had different root causes, it is difficult to draw parallels between them. In reviewing the impact of this pandemic on RAM’s portfolio and our macroeconomic forecasts, we look to the fundamental strength of issuers and our economy and the headroom available to them to absorb the significant stress.
Although the rating drift (i.e. upgrades net of downgrades and defaults) ended 2019 on a positive note, it may be inevitable to see more downgrades in view of the extraordinarily challenging period ahead – which would turn the rating drift negative in 2020. During the Global Financial Crisis (GFC) in 2008/09, up to 10% of the portfolio suffered downgrades with an average quantum of two notches. Whereas during the 1998/99 Asian Financial Crisis, when the Malaysian economy contracted by about 7%, 60% of our portfolio suffered downgrades averaging three notches. That said, the structure of the Malaysian corporate bond market and the financial profile of issuers are substantially different now, with better credits and corporates that are less leveraged and have minimal offshore borrowings.
While most businesses will be affected to some extent, sectors that are more vulnerable include the tourism, leisure & hospitality, aviation, retail and oil & gas sectors. The impact on individual companies will depend on their reserves, liquidity and financial flexibility. Our latest preliminary assessment (as at 24 March 2020) affirms that the bulk of RAM’s rated portfolio (80% of which are rated AAA and AA) is likely to have the capacity to meet debt obligations due to sufficient liquidity and/or financial flexibility. Less than 6% is considered at high risk of immediate credit pressure; these entities are mainly directly exposed to the hard-hit tourism and leisure sector. Meanwhile 44% are assessed to be stable, with minimal impact on their ratings. That said, this may not necessarily further preclude higher negative rating actions this year, which may be necessary in the event of a deep and prolonged downturn beyond 2H 2020.
In our latest iteration of a ‘worst-case’ scenario that all entities rated non-investment-grade (BB and lower) in our portfolio (of which there are fewer than 15) were to concurrently default, the default rate would be around 7%. As a comparison, RAM’s current default rate stands at 0.6% while the peak default rate observed during the GFC was around 1.6%. Even if this scenario were to pan out, however, investor losses may be limited as all but two of the rated non-investment-grade issuers in our portfolio are Danajamin- or bank-guaranteed, or are supported by entities rated at least AA1.
Given that the situation remains fluid at this juncture, we are maintaining a very close watch on our rated portfolio and will provide relevant updates to the market from time to time.
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Chuan Shyang Lin
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About RAM Rating Services Berhad (RAM Ratings)
Established in 1990, RAM Ratings is a leading credit rating agency registered under the Securities Commission’s Guidelines on Registration of Credit Rating Agencies, 2011. In addition to the provision of credit ratings for corporate bonds and sukuk and their issuers, RAM Ratings also provides research and publications on Islamic finance, fixed income and macro-economic and industry analysis as well as data analytics relating to credit risk, counterparty assessments and other related domains.
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