As we speculated yesterday...
- If in Fitch's opinion, an announced exchange offer constitutes a DDE, the sovereign issuer rating will be lowered to 'C', indicating that default is highly likely in the near term
- Fitch will place the issuer rating of the sovereign into default, specifically 'Restricted Default' (RD) upon closing of a distrssed debt exchange.
- Fitch says a potential Greek debt exchange if voluntary, could still be considered a default event
- Fitch says Greek debt exchange would be a default if bondholders terms were worse than original terms
- Fitch says stressed sovereign debt exchange with worse terms is a technical default even if deemed voluntary
The gist is clear: the great unknown of how the rating agencies will treat even a "voluntary" restructuring is still in the closet.
FITCH OUTLINES RATING APPROACH TO A SOVEREIGN DEBT EXCHANGE
Fitch Ratings-London-06 June 2011: Given considerable market speculation regarding a possible debt exchange involving Greek ('B+' / Rating Watch Negative) sovereign debt, and subsequent interest in the rating approach adopted by Fitch Ratings in determining whether a debt exchange is an event of default and the rating implications before and after an exchange, the agency has outlined below its approach to sovereign debt exchanges based on its general 'Coercive Debt Exchange Criteria.'
There are two guiding principles in determining whether a debt exchange constitutes a default event or is an opportunistic 'liability management' exercise that has no rating implications. The first is an assessment of the terms on the new securities offered in the exchange and whether they are materially less advantageous to bondholders than the existing securities. The second guiding principle is whether the exchange is, or appears to be, necessary to avoid insolvency and/or illiquidity. Thus a debt exchange that offers new securities with terms that are worse than the original contractual terms of the existing debt and where the sovereign is subject to financial distress (which can be reflected in low issuer ratings, or ratings which have seen a sharp downward migration, or both) would be judged by Fitch to constitute a 'coercive' or more commonly known as a 'distressed debt exchange' (DDE) and hence a default event, even if bondholders' participation was deemed to be 'voluntary.'
A more complex situation would arise if the terms on the new securities, taken in the whole, were considered to be broadly neutral or better than the terms on the existing securities. For example, the offered securities may incorporate significant credit enhancements in the form of collateral and other features such as higher and/or step-up coupon profile. Determining whether the terms on the new securities imply an economic loss or gain relative to the terms of the existing securities can be complex and subjective, with a net present value analysis providing only a guide. Participation in the exchange would also have to be 'voluntary' in the sense that bondholders are not subject to 'sanction' if they choose not to participate. An important guide in this respect is that securities not tendered are not at greater risk of non-payment nor are they implicitly or explicitly subordinated to the securities created by the exchange.
If in Fitch's opinion, an announced exchange offer constitutes a DDE, the sovereign issuer rating will be lowered to 'C', indicating that default is highly likely in the near term. The ratings of the securities subject to the exchange will also be lowered to 'C'. On closing of the exchange offer and following confirmation that the exchange will be completed (for example because the minimum threshold for participation has been met), Fitch will place the issuer rating of the sovereign into default, specifically 'Restricted Default' (RD). The ratings of the tendered securities will be lowered to 'D' and will remain at that level for as long as the sovereign is rated 'RD'. The ratings of eligible securities that are not tendered and continue to be serviced will remain at 'C' until the exchange is completed with the issue of new securities.
Fitch will conduct a review of the credit profile of the sovereign in light of its anticipated post-exchange capital structure along with other relevant information after the offer date has closed and prior to completion marked by the issue of new securities. Based on such a review, Fitch may issue expected ratings on the new securities that would be confirmed on completion of the exchange (or very shortly thereafter) and receipt and review of the relevant documentation. On completion of the exchange, Fitch will also assign new issuer ratings to the sovereign and simultaneously withdraw the ratings of the securities extinguished by the exchange. The ratings of the securities not tendered in the exchange could be raised from 'C' to the level of the rating of the new securities if those ratings are higher and they are not in any way subordinated to the new securities. However, if securities not tendered into the exchange subsequently become non-performing, the sovereign (issuer) ratings will remain in default.