Moody's: Asian covenant quality for high-yield bonds holds steady; better than other regions

Moody's Investors Service says that Asian high-yield bonds issued in the first quarter of 2015 contain covenant protections that are stronger than those in other regions, and are on par with the protections for bonds issued in Asia in the previous quarter.

Moody's analysis is based on data from its High-Yield Covenant Database, which includes all rated high-yield bond deals that closed in each region during the quarter. A full discussion of Moody's results is included in its just-published report "Asian Covenant Quality Remains Stronger Than Other Regions' in First Quarter of 2015".

The overall average covenant quality score for rated Asian high-yield-bond deals issued in the first quarter of this year was at 2.63; similar to the 2.67 for deals issued in the fourth quarter of 2014, but weaker than the long-run cumulative average of 2.49 for the region.

Moody's measures bond covenant quality on a five-point scale, with 1.0 denoting the strongest investor protections and 5.0, the weakest and assesses bond protections against six risk areas: restricted payments, investments in risky assets, leverage, liens subordination, structural subordination and event risk (change of control).

"Asian covenant quality is good with a cumulative average of 2.49 at end of Q1 2015, which is significantly stronger than the global average of 3.37," says Jake Avayou, a Moody's Vice President and Senior Covenant Officer.

"We note that in Q1 2015, Indian bonds had the strongest covenant protections. Only Indian and Chinese companies issued bonds during this period," adds Avayou.

Moody's points out that the two Indian high-yield bonds issued in Q1 2015 contained fewer quantifiable restricted payments, risky investments, and debt carve-outs when compared with the other bonds issued in the same quarter.

Moody's notes that bond protections against three risk areas -- namely restricted payments, investments in risky assets and change of control -- weakened in the first quarter of 2015 from the protections seen in the last quarter of 2014.

When compared to Q4 2014, the restricted payment score weakened to 2.97 (moderate category) from 2.48 (good category), and the investments in risky assets score weakened to 3.45 (weak category) from 2.88 (moderate category).

The weakness was largely due to four Chinese property companies that pre-dated their income baskets to coincide with their previous bond issuances. This approach increases flexibility to pay dividends, buy back stock and make risky investments with money that could otherwise be used to service the bonds, and is a clear negative for bondholders.

In addition, two of the four Chinese property deals this quarter further weakened protections against risky investments by allowing free reclassification between their general permitted investment baskets and their restricted payments income baskets.

Moody's notes that the region's protection against event risk related to a change of control weakened to 2.11 in Q1 2015 from 1.71 in Q4 2014. The result was because Country Garden Holdings Company Limited's (Ba2 ratings under review for upgrade) and CAR Inc.'s (Ba1 stable) negative ratings conditions specify that triggering a put on the bonds requires a downgrade by two rating agencies if the notes are rated below investment grade by all three ratings agencies, rather than the usual one.