High-yield defaults

The following characterized high-yield defaults in Europe for 2001 and... 

High-yield defaults in Europe in both 2001 and 2002 produced weighted average recovery rates significantly below US historical averages. Investors recovered just 11% of par value on 2001 defaults and 15% of par on 2002 defaults. In the United States, recovery rates on... 

METHODOLOGY UNDERLYING FITCH9 PAR RASD EUROPEAN HIGH-YIELD DEFAULT INDEX... 

In 2001, Fitch Ratings launched a default index dedicated to the emerging European high-yield bond market. The index is a par based index and was created using the same methodology Fitch employs for its US high-yield default series (see Exhibit 28.2). In particular, in order to... 

EXHIBIT 28.2 Parameters of Fitch s European High-Yield Default Index... 

EXHIBIT 28.4 Industry Distribution of European High-Yield Default Volume, 2001 and 2002... 

EHBIT 28.6 US High-Yield Default Rates and Volume, 1980-2002... 

In addition to the default rate rising to exceptionally high levels, other characteristics of the first batch of European high-yield defaults reveal the aggressive nature of the market s early years. Fitch observed that the aver-... 

Like Black and Cox s work, the authors find spreads similar to the market spreads. Moreover, they find a correlation between credit spread and interest rate. In fact, they illustrate that firms with similar default risk can have a different credit spread according to the industry. The evidence is that a different correlation between industry and economic environment affects the yield spread on corporate bonds. Then, the duration of a corporate bond changes following its credit risk. For high-yield bonds, the interest-rate sensitivity increases as the time to maturity decreases. 

Some practitioners argue that Merton models are more appropriate than reduced form models when pricing default swaps on high-yield bonds, due to the higher correlation of high-yield bonds with the underlying equity of the issuer firm. 

Default and Recovery Rates in the Emerging European High-Yield... 

EXHIBIT 28.1 Summary Default Statistics for US and European High-Yield Markets 2001 and First Nine Months of 2002... 

Given this new landscape, in 2001, Fitch Ratings created a par based default index specific to the European high-yield market. The objective of this chapter is to compare and contrast default and recovery patterns across the two markets in order to give global bond investors and European investors, in particular, historical and current benchmarks for measuring credit risk. 

EXHIBIT 28.9 Vintage Distribution of Defaulted High-Yield Bonds Excluding Fallen Angel United States 2001... 

Excludes fallen angel defaults. Based on bond prices one month following default. Prices provided by High-Yield Advantage. 

Fitch used the market prices of defaulted bonds one month after default as a proxy for recovery value. The growth of a secondary market for European high-yield bonds made this analysis possible but ultimately the various bankruptcy jurisdictions in Europe will determine how bondholders will fare. The outcome of these filings will be very meaningful for the development of the market going forward because each country has its own bankruptcy laws and not all are favorable to bondholders. Some jurisdictions, such as France for example, strongly... 

The moral of the story is that in an efficient market a high default rate does not necessarily translate into equally dismal returns. The reality that many of the defaulted issues were trading at deep discounts at least six months before default confirms that the European high-yield market had achieved a meaningful level of sophistication by 2002. 

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