Ford, a fallen angel
Ford2 Motor’s 3.664% bond due 08/09/24 was downgraded to high yield in the throes of the pandemic in March 2020. The downgrade reflected the operating and market challenges facing the well-known automotive company when it was undertaking an extensive restructuring plan, and cash flow and profitability were weak.
Despite this deterioration in the company’s financial metrics, its business profile showed positive signs. It had a strong position in the profitable truck segment where it was a large-scale manufacturer. As the company executed its margin recovery plan and drivetrain shifts, it also invested in developing electric vehicles where its models benefitted from positive acceptance.
Our analysis found a strong credit performance, prudent risk management and a large capital structure of its captive finance business. We found no signs of the business or industry being in structural decline and determined it could withstand pandemic-driven challenges. We concluded that the bond was less likely to suffer further sharp price falls, though its return to an investment-grade rating will require Ford to deliver on its 2023 8% adjusted EBIT margin target on a sustainable basis.
As such, we deemed it a well-suited fallen angel.
Ford: a decade of ups, downs and pulling to par
Explore the interactive graphic below tracking the evolution of Ford’s creditworthiness over the past decade.
Source: LOIM. For illustrative purposes only. Any reference to a specific company or security does not constitute a recommendation to buy, sell, hold or directly invest in the company or securities. It should not be assumed that the recommendations made in the future will be profitable or will equal the performance of the securities discussed in this document. Past performance is not indicative of future results. Ratings subject to change
Adler, a falling knife
ADO properties3 was downgraded from investment grade in 2020 following its acquisition of Adler Real Estate. The ratings cut reflected a combination of lower quality assets, weakened financial metrics and unclear management and governance.
In September 2021, questions were raised in the German parliament about the three-way merger that created Adler Group, whether the German regulator BaFin had reviewed the transaction appropriately and if (or how) Austrian entrepreneur Cevdet Caner was involved. A report from a short-seller, Viceroy Research, made additional allegations about governance, valuations and property transactions.
Adler announced a material disposal strategy in October 2021 that aimed to reduce debt by selling its more attractive investment properties and thereby increase its exposure to riskier development projects, weakening its business profile and credit quality. The strategy for the remaining business was vague, governance issues had not been addressed and it was not clear to us that the new business would have access to the unsecured bond market – all of which led us to conclude that Adler did not have a viable long-term business and was to be treated as a falling knife.
Therefore, when the Fallen Angels Recovery strategy launched in November 2021, we chose not to buy the borrower’s 1.5% bond due 07/26/2024 priced at 91.25.
Adler Group was downgraded to CCC, with negative outlook (NO) in May 2022 and would have left the index at a price of about 60. It later fell towards a price of 40 when it was cut to CC NO in December 2022. Although it has recovered somewhat since, many of its issues remain unresolved: the company has struggled to find an auditor and is currently going through a restructuring exercise, which is being challenged in the courts.
Figure 4 illustrates how quickly a bond price can fall when faced with such challenges, and how important careful bottom-up analysis is to prevent exposure.
Figure 4. Cut down: price declines of the Adler 1.5% bond due 07/26/2024
Source: Bloomberg. For illustrative purposes. As of April 2023. Past performance is not a guarantee of future results.
Optimising return potentialFallen angels represent attractive prospects for fixed-income investors, but the segment is by no means uniform. Excluding falling knives requires an active approach to select only the best names and mitigate risk from those in danger of further downgrades or default. Our approach couples dedicated systematic and credit research teams to filter the universe and optimise return potential. |
Sources
[1] Any reference to a specific company or security does not constitute a recommendation to buy, sell, hold or directly invest in the company or securities. It should not be assumed that the recommendations made in the future will be profitable or will equal the performance of the securities discussed in this document.
[2] The case studies provided in this document are for illustrative purposes only and do not purport to be recommendation of an investment in, or a comprehensive statement of all of the factors or considerations which may be relevant to an investment in, the referenced securities. The case studies have been selected to illustrate the investment process undertaken by the Manager in respect of a certain type of investment, but may not be representative of the Fund's past or future portfolio of investments as a whole and it should be understood that the case studies of themselves will not be sufficient to give a clear and balanced view of the investment process undertaken by the Manager or of the composition of the investment portfolio of the Fund now or in the future.
[3] The case studies provided in this document are for illustrative purposes only and do not purport to be recommendation of an investment in, or a comprehensive statement of all of the factors or considerations which may be relevant to an investment in, the referenced securities. The case studies have been selected to illustrate the investment process undertaken by the Manager in respect of a certain type of investment, but may not be representative of the Fund's past or future portfolio of investments as a whole and it should be understood that the case studies of themselves will not be sufficient to give a clear and balanced view of the investment process undertaken by the Manager or of the composition of the investment portfolio of the Fund now or in the future.
Important information
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