Morgan Stanley has unified its high-yield, investment-grade and emerging markets fixed-income research and trading coverage of a number of "crossover" companies--credits that shift back and forth between high-grade and high-yield. Stephen Penwell, global head of credit research atMorgan Stanley, says the firm is looking to capture an area of the market that it had previously overlooked. The firm sent out its first crossover research piece, on British communications equipment-maker Marconi, earlier this month.
The effort is unusual according toBill Reiland, head of high-yield research at Morgan Stanley, because it involves the efforts of two senior analysts in each sector, and because the research team will cover highly volatile sectors that have a lot of high-yield and investment-grade debt outstanding, such as basic industries, technology, media and telecom.
Tom Thees, Morgan Stanley's head of investment-grade trading says the crossover desk went live at the end of June, and business has improved significantly in the 80 or so credits assigned to the desk. He slated one of his two senior investment-grade traders, Ram Putcha, to work the desk. High-yield trading head Anthony Melchiorre sent Pat Lynch, also a senior trader, to work with Putcha. Some of the larger names they trade include auto-parts makers Dana and Arvin Meritor, and healthcare companies Columbia and Tenet.
Among other Street firms,Merrill Lynch merged high-grade and high-yield research earlier this year (BW, 5/28), but is focusing only on a few smaller sectors, essentially increasing the responsibilities of the main analyst. A J.P. Morgan Securities spokesman says the only crossover research it has published is a joint research report on Lucent Technologies and a quarterly report on retail. The firm is planning its first annual crossover conference in October, where high-yield and high-grade analysts will offer relative value picks across the credit spectrum of several sectors. Andrew Susser, co-head of high-yield research at Banc of America Securities, says he has never seen a crossover research effort on the scale Morgan Stanley has undertaken. Banc of America has one senior analyst, Angelo Durso, dedicated exclusively to crossover names.
Morgan Stanley will use two analysts working together--one high-yield, the other high-grade. While one analyst will be the "lead" for each credit, Penwell says the other will have 49% of the responsibility for coverage. Reiland says Morgan's new management made going after crossover sales business one of its first priorities. Reiland says the increase in "fallen angels"--companies that fall from investment-grade into high-yield--was the main factor in the decision.
Fifty-seven companies fell from investment-grade to junk for the 12-month period ending June 31, according to Kamalesh Rao, an economist atMoody's Investors Service. He says this is roughly double the rate of "fallen angels" seen in 1990-91, the last serious downturn in the credit cycle. Reiland says high-yield analysts have not been adequately prepared to pick up coverage in those situations, and potential investors have been lost as a result.
Investors seem to welcome the attention to crossover credits. "They're trying to go where the opportunity is," says Margaret Patel, high-yield portfolio manager at Pioneer Investment Management. Patel says low interest rates have spurred a "great hunger for yield across the spectrum" of investors from high-grade to high-yield. She notes that in certain cases, it is possible to pick up more yield in a high-grade credit than in one in high-yield. She cites Equistar (Ba1/BBB-) and Motorola (A3/A-) as examples of companies that have recently traded at much higher yields than their ratings would suggest. The danger, she says, is that some companies, such as Laidlaw (Ca/D), Levi Strauss (Ba3/BB-) and Xerox (Ba2/BB+), begin to fall down the ratings ladder and don't stop.
Crossover trading may be less novel, but is still growing in popularity. Mas Okoshi, a trader on Banc of America's crossover desk, says his firm started the desk about a year ago, and he believes the trend is growing. That desk, led by senior trader Tim Gordon, trades some 30-40 names.