Friday, February 15, 2013

Moody's "Expects" DoJ Lawsuit to Cost S&P Less than $10mm

Wow, we're finally talking "expect[ed] loss."

So here's the theory.  Moody's and Fitch have both been considering downgrading S&P's debt since September 2011.  Apparently there was much uncertainty which has been removed now that a multi-billion-dollar lawsuit has been filed, and both rating agencies have quickly downgraded S&P: Fitch downgraded from A- to BBB+ and Moody's from A3 to Baa2.  (How similar their opinions are!)

It's easier to dig a little deeper on Moody's side -- Moody's rating speaks directly to an expected loss.  

According to Bloomberg data, McGraw Hill has two debt issues outstanding, each for $400mm, with one maturing in 2017 and the other in 2037.  The ratings are identical for each issuance, irrespective of its maturity.

For the 2017 bond, the rating downgrade from A3 to Baa2, maps to an increased expected loss estimate change from approximately  0.3% to roughly 0.66% (using 4-year maturity as an estimate).  The difference is 0.36%, which comes out to about $1.5mm on a $400mm bond.

For the 2037-maturity bond, the downgrade maps to an expected loss estimate that increases to 6.35% from 4.17%  (using 24-year maturity as an estimate).  Even that's not too much - roughly $8.7mm.

In sum, Moody's is saying that thanks to the DoJ's filing, S&P's bondholders are "expected" to lose the present value of less than $10mm down the road. ("Less than" - because S&P was already on watch for downgrade prior to the Dept. of Justice's filing.)

We are the first to agree this analysis is imperfect, but it's worth discussion and we welcome refutations!  Tell us why we're wrong.


JohnnyDeep said...

what also is amazing is that both Fitch and Moodys start looking into MHP in Sept 2011 and both suddenly downgrade in Feb 2013. They're def in sync

Anonymous said...

You're wrong because MHP has a $12.5bn equity market cap. Meaning it'd need to lose $12.51bn before bondholders would lose $10mm.

PF2 said...

@ Anonymous: You're on the right track. Remember, Moody's rating doesn't speak to default probability - but to expected loss. So what we're saying is that the weighted average loss estimated in their scenarios tested went up only by $10mm.


These guys need to be sued more.