Junk bond defaults to rise

Standard & Poor’s said yesterday that the default rate by issuers of junk bonds could rise as high as 20% by the end of 2010.

In a statement the agency said that in the worst-case-scenario as many as 75 companies issuing the bonds in Europe could default next year, driving the default rate for western Europe up to 11% from 3% for 2008.

The news suggests market pessimism surrounding sub-investment grade bonds that have seen values plummet to near distressed levels might present more of a value trap than sound investment opportunities.

Blaise Ganguin, Standard & Poor’s chief credit officer for Europe, says bond investors should brace themselves for another difficult year.

“The seismic shocks to the financial system caused by plummeting confidence in the banking sector, the virtual closure of the corporate bond market in September, and the non-existent high yield market throughout the year, all contribute to extremely difficult funding and operating conditions for European companies next year,” says Ganguin.

“In this environment, it is important for investors to focus not only on the probability of default, but also what they might recover in the event of default.”

On top of the spike in defaults, S&P also predicts continuing downgrades for European financial and non-financial companies. The group points out that already the median rating for European banks has slipped from AA- in October to A+.