SP warns of rising European credit risk

THE credit quality of major European businesses is likely to deteriorate next year, ratings agency Standard Poor's warned today, saying risks were rising but had not yet been priced in by the markets.

The forecast, if accurate, could herald a rise in the number of defaults in 2005, especially as it comes at a time when many businesses are highly leveraged after corporate buyouts, and vulnerable to the impact of slower economic growth.

"We are not bullish about credit markets, nor do we see a lot of upside in ratings," said Barbara Ridpath, chief credit officer in Europe of Standard Poor's Ratings Services. "Many traditionally conservative corporate issuers are now happy to manage their business on the edge of investment grade."

SP said 2004 probably marked the top of the current credit cycle as upgrades balanced downgrades - at 76 apiece - for the first time in six years while the number of defaults - two - was the lowest in five years.The figures compare favourably with the pattern in 2003 when there were 273 downgrades and 51 upgrades. Eight European businesses defaulted that year. But 2005 looks likely to be worse than this year.

"Credit quality has improved in 2004, but risk in a number of areas is increasing again and we do not expect the rate of recovery in corporate credit quality to be sustained into 2005," Ridpath said.

SP noted that for the second consecutive year there had been a sharp increase in the volume of bonds issued that were below investment grade - classed as those not in the top-four rankings.

"Historically, such a spike in high-yield issuance tends to be followed within two or three years by an increase in defaults," SP said.

"Any economic correction could seriously destabilise these issuers."

The agency said there had been a jump in the volume of leveraged buyouts in Europe, and that there were already more than twice as many companies flagged for a possible downgrade as an upgrade.

"Add to this the fact that the European economic outlook remains lacklustre and the result is we do not expect the rate of credit quality improvement to be sustained into 2005," Ridpath said.

The European Central Bank recently sliced its forecasts for Europe's growth next year while president Jean-Claude Trichet has warned of inflationary pressures.

The bank said its midpoint forecast for expansion in 2005 was now 1.9%, down from an earlier prediction of 2.3%. Inflation was seen as being at 2%, up from an earlier projection of 1.8%.

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