Heading into this year, many bond market observers were concerned about the state of BBB-rated corporate debt and how much of that debt could be downgraded to junk, turning those bonds into fallen angels.
The VanEck Fallen Angel High Yield Bond ETF (NYSEArca: ANGL) is the dominant exchange traded funds providing access to fallen angels, or corporate bonds originally issued with investment-grade ratings that are later downgraded to junk. ANGL tracks the ICE BofAML US Fallen Angel High Yield Index (H0FA), “which is comprised of below investment grade corporate bonds denominated in U.S. dollars, issued in the U.S. domestic market and that were rated investment grade at the time of issuance,” according to VanEck.
While it is still too early in 2019 to say fears of substantial BBB downgrades are things of the past, ANGL is up more than 4% year-to-date and some analysts believe fears of fallen angel risk my be overstated.
“The significant rise in low investment-grade US corporate debt may not equate to greater fallen angel risk in the next downturn,” said Fitch Ratings in a recent note. “Some of the rise is due to M&A accompanied by EBITDA growth and some is attributed to rising stars and issuers maintaining low investment-grade ratings through the current cycle, while prudently taking advantage of lower borrowing costs. Credit ratings are meant to withstand cyclicality with forward looking views considering financial flexibility and incorporating realistic forecasts of future operating performance but ratings can change because of management missteps, unforeseen events or deeper-than-expected downturn conditions.”
Related: Risk And Reward With EM Junk Bond ETFs
Assessing ANGL ETF
As of January 29, ANGL held 222 bonds, over 91% of which were rated BB or B. The fund has an effective duration of 5.82 years.
“Fallen angel risk may not be as widespread as some anticipate in the next downturn due to varying credit stories across issuers,” according to Fitch. “As of YE 2018, approximately one-fifth of ‘BBB’ and ‘BBB-‘ Fitch-rated issuers had leverage above our potential downgrade thresholds, with most being REITS, food, beverage and tobacco, and building materials and construction companies. We expect this percentage to decline to 15% in 2019 and 5% in 2020 due in most cases to post-acquisition deleveraging.”
Fallen angel issuers tend to be larger and more established than many other junk bond issuers. Relative to the broader high-yield market, fallen angels have historically included greater concentration of higher quality or BB-rated speculative-grade bonds. Historically, fallen angels have outperformed the broader junk bond market.
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