GM posted a 37% decline in fourth quarter net income. Meanwhile Ford, while reporting $104m of net income in the same period, reported weaker than expected performance at every automotive region and turned in a worldwide pretax loss from manufacturing of $470m. Market concerns that Standard and Poor's might downgrade GM to junk also intensified this week when the rating agency made an unexpected public reaffirmation of the company's BBB- rating.
Rather than take comfort from the news, investors interpreted S&P's comments as a sign that the agency was much twitchier than they had thought.
?Many in the marketplace have been operating on the assumption that if there was negative rating action on GM it would not be until the back half of this year, but S&P's decision to affirm its rating on GM has made people feel that a change might be more imminent,? said Edward Marrinan, chief credit strategist at JP Morgan in New York. ?For sure, GM is on a short leash, and perhaps shorter than previously thought.?
Investors dumped bonds to the point where GM's 2033 bonds slid to 420bp over Treasuries yesterday (Thursday), from 375bp last Friday.
?From a fundamental perspective, GM did not give any great reasons for credit investors to feel comfortable about the company,? said a senior analyst in New York. ?This is a company that has to work doubly hard just to stay around the break-even level.?
Although anxiety over a possible junk rating is mostly centred on GM, both firms have suffered significant spread widening over the past three weeks.
GM's 2014s have widened 74bp to 325bp since the beginning of the year and its 2033s lost 91bp to 415bp. Ford's 2031s have widened by 73bp to 332bp and its 2013s by 51bp to 242bp.
GM and General Motors Acceptance Corp, the group's financial services subsidiary, now trade as if they were already single-B credits, and Ford and Ford Motor Credit are nearing double-B spreads.
GMAC is expected to keep its bond issuance in the unsecured institutional global debt markets at a modest $5bn-$8bn this year, while it concentrates on substantially improving its whole loan sales.
With $23bn of cash in hand, GMAC is essentially prefunded for this year. It is, however, expected to issue about $15bn-$18bn of bonds, according to analysts. Of that, about $10bn could be raised in the retail bond market, leaving a feasible $5bn-$8bn to target at institutional investors.
Ford Motor Credit's term funding plan is largely in line with last year's. It plans to raise $5bn-$9bn of institutional unsecured debt, compared with $7bn in 2004, and $5bn-$6bn of retail unsecured debt, up slightly from $5bn.
The company expects to increase ABS issuance ? not including CP conduits or whole loan sales ? from $6bn to $10bn-$15bn.
Ford Motor Credit's managed receivables, meanwhile, will be about $160bn-$165bn this year, some $3bn-$8bn less than in 2004.
Its asset backed commercial paper outstandings will increase from $20bn last year to $23-$25bn and asset backed securities from $21bn in 2004 to $25-$27bn. Term debt and ?other? financing will drop from $120bn last year to $100-$105bn.
Despite understandable market hysteria about the prospect of $120bn of GM and GMAC debt descending to the junk market, it is not likely to happen soon, according to some analysts.
?We expect a negative outlook from S&P by mid-year, but rule out any cut to junk level for the time being,? said Christophe Boulanger, senior auto analyst at Dresdner Kleinwort Wasserstein.
Conveniently, there are moves afoot to change inclusion and exclusion rules for bond indices, which could save GM from being booted out of the major investment grade corporate indices.
At the beginning of this year Merrill Lynch added Fitch ratings to its inclusion rules and said it would take the average rating of Moody's, S&P and Fitch to determine a company's eligibility for its high grade corporate bond index.
Lehman Brothers is also considering changes to its high grade corporate bond index. Although Lehman would not comment, analysts said its plan was also to include Fitch ratings at some point this year.
Currently, inclusion in the Lehman index is based on the lower of the two ratings by S&P and Moody's. If Fitch were brought in, it is likely the highest two of the three ratings for a company would be used as the criteria for inclusion.
Although internal fund management rules about holding split-rated debt will cause enormous volatility if GM is downgraded to junk, the index changes will go a long way to dampening the problems.
?Many investors have internal risk guidelines that relate to credit ratings and if S&P downgraded GM it would likely be an unhappy event for auto sector spreads,? said Marrinan. ?However, it gives more breathing room and manoeuvrability if there is no formal ejection event from the main high grade corporate indices if a third rating agency were to be included for purposes of index inclusion/exclusion.?
The next event that could move Ford's spreads is next Tuesday when the company releases its outlook for 2005 at a meeting in New York.
For GM, meanwhile, more spread volatility lies ahead, say some market participants.
?The worst to come is definitely in the next three months,? said Boulanger. ?Once you have results for the first quarter, which are likely to be poor, GM will announce guidance for the second quarter and the market will look very hard at that.?
Any tightening of GM and GMAC spreads thanks to short-covering in the months to come is expected to be hit by a wave of selling by real money accounts trying to reduce their exposure to the company in preparation for a downgrade.
