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By Kristin Cejda
Some familiar faces have come back to investment grade status this year, providing tactical investment opportunities.
After 2020’s heightened fallen angel activity, 2021 saw the highest number of rising stars in several years. So far in 2022, rising stars continue to have momentum, with just over $30 billion coming back to investment grade on a year-to-date basis. Large capital structures, such as Kraft Heinz (KHC), which previously was a staple IG food and beverage issuer, have migrated back to investment grade and more specifically the BBB category. Kraft Heinz was one of the largest fallen angels in 2020. Its quick round trip was made possible by its focus on asset sales and debt reduction under new management, as well as at-home demand that improved its business fundamentals. Typically, rating agencies rate through the cycle, and such a swift return to investment grade is not the norm. However, sector-specific and company-specific factors drove Kraft’s brief stay in non-IG. From here, investors will focus on key credit factors such as the company’s ability to battle input cost inflation with its less private-label exposed product portfolio.
Other familiar names, such as Freeport-McMoRan (FCX), have also migrated back to IG in recent months. Freeport spent several years as a non-IG rated entity. Its stay in non-IG was somewhat more typical given that it was downgraded over five years ago during the trough in the commodity cycle. More recently, the company has steadily improved its operations and cleaned up its balance sheet in preparation for its welcome back to the IG market. The company benefits from its low-cost, long-lived asset base, with conservative financial policy that makes it poised to live as an IG-rated entity through the cycle.
From here, we expect rising star momentum to continue in the coming quarters, with key contributors in sectors such as Energy, Autos and Healthcare. As they migrate to IG, these capital structures will act as a source of pseudo supply for the IG market and, at the same time, a reduction in the size of the non-IG market, resulting in different technicals for each market. Rising star candidates are typically well telegraphed, such that investors can develop views ahead of actual upgrades, with index inclusion acting as the final catalyst for positioning. Most rising stars go on to issue new debt in the IG market within the first year or so of coming back, creating another opportunity for spreads to reset. We continue to find tactical investment opportunities in the crossover ratings space.
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