new york university salomon center leonard n. stern school...

New York University Salomon Center

Leonard N. Stern School of Business

Special Report On

Defaults and Returns in the High-Yield Bond and Distressed Debt

Market:

The Year 2011 in Review and Outlook

By

Edward I. Altman

And

Brenda J. Kuehne

February 03, 2012

February 03, 2012 Altman-Kuehne High-Yield Bond Default and Return Report

2

Contents

Executive Summary ....................................................................................................................................... 3

Defaults, Default Rates, and Recoveries ........................................................................................................ 4

Bankruptcies .................................................................................................................................................. 8

Industry Defaults .......................................................................................................................................... 10

Age of Defaults ............................................................................................................................................ 12

Fallen Angel Defaults .................................................................................................................................. 14

Default Losses and Recoveries .................................................................................................................... 16

Distressed Exchanges................................................................................................................................... 19

Subsequent Performance of Distressed Exchange Companies .................................................................... 23

Forecast Recovery Versus Actual ................................................................................................................ 25

Related Recovery Statistics .......................................................................................................................... 26

Mortality Rates and Losses .......................................................................................................................... 30

Returns and Spreads ..................................................................................................................................... 32

A Continuing Investment Dilemma ............................................................................................................. 33

European Sovereign Debt Crisis .................................................................................................................. 36

New Issues and Other Changes in Size of the High-Yield Market .............................................................. 38

The Leveraging of Corporate America ........................................................................................................ 38

Proportion and Size of the Distressed and Defaulted Public and Private Debt Markets .............................. 40

Forecasting Default Rates and Recoveries ................................................................................................... 44

Performance of Defaulted Debt Securities ................................................................................................... 50

Appendix A: Quarterly Default Rate Comparison (1989 -- 2011) ............................................................... 51

Appendix B: Defaulted Corporate Straight Debt Issues .............................................................................. 54

Appendix C: Distressed Exchanges ............................................................................................................. 56

Appendix D: Leveraged Loan Defaults ....................................................................................................... 57

Appendix E: Chapter 11 Filings by Liability Size ....................................................................................... 58

Appendix F: Defaults by Industry ................................................................................................................ 60

Appendix G: Emergences from Bankruptcy ................................................................................................ 61

Acknowledgments

Dr. Altman is the Max L. Heine Professor of Finance and Director of the Credit and Debt Markets

Research Program at the NYU Salomon Center, Leonard N. Stern School of Business and a member of the

Advisory Board of Paulson & Co. Brenda Kuehne is a Credit and Debt Markets Research Specialist at the

NYU Salomon Center. We appreciate the assistance of Alex Dai and Vin Morada of the NYU Salomon

Center and the several market makers who provided us with price quotations. We offer a special thanks to

the various rating agencies, Oleg Melentyev of Bank of America Merrill Lynch, Daniel Sweeney of Credit

Suisse, Steven Miller of S&P LCD, Kerry Mastroianni of New Generation Research and Ty Wallach and

Sheru Chowdhry of Paulson & Co.


3

From a performance perspective, the year 2011 proved to be a challenging one

for investors in high-yield bonds. Despite a continuation of extremely low

default rates and record amounts of new issuance, absolute annual returns as

well as returns versus 10-yr Treasuries were well below historical averages.

Additionally, 17.9% of the high-yield market was classified as distressed by

year-end compared to only 7.6% one year earlier.

The default rate rose slightly to 1.31%, a scant 18bp higher than last year and

the second lowest annual rate since 2007. The fourth-quarter 2011 default rate

was 0.67%, however, the highest quarterly default rate since the fourth-quarter

2009.

Default losses on high-yield bonds came in at 0.58%, based on a weighted

average recovery rate of 60.3% just after default, a level significantly higher

than the historical average, and not seen since 2007. The weighted average

recovery on bankruptcy and payment defaults was somewhat lower at 57.9%,

compared to 79.5% for distressed exchange default recoveries.

Returns on high-yield bonds were considerably lower than last year, ending the

year at 5.52% (Citi Index). The excess return versus 10-yr US Treasuries was a

-11.47%, inferior compared to a 2.35% historic average, and the sixth lowest in

our 34-year time series. Yield-to-maturity spreads versus 10-yr US Treasuries

increased to 6.54% by year-end 2011, 196bp higher than year-end 2010, and

above the historical average of 5.25%. Defaulted bonds and bank loans also lost

ground in 2011, with a combined annual return of -3.02%.

The distress ratio of bonds yielding more than 1,000bp over comparable

duration treasuries, measured by number of issues, decreased to 17.9% as of the

end of 2011 from 22.4% three months earlier, but increased significantly from

7.2% at year-end 2010. The distress ratio at year-end was very close to the

historic year-end average of 20.6%.

Estimates of the face value size of the distressed and defaulted debt markets

increased to $1.46 trillion as of December 31, 2011, up 38% from $1.06 trillion

one year earlier, completely due to the increase in distressed debt – both public

and private. The market value estimate also increased to approximately $836

billion from $597 billion one year earlier.

Based on three different methodologies, the 2012 default rate forecasts range

from 3.93% (distressed ratio method) to 4.80% (yield-spread method), with a

consensus average rate of 4.28%.


4

Defaults, Default Rates, and Recoveries

High-yield bond default rates increased slightly in 2011, but remained well below

historical averages. The rate increased from 1.13% at year-end 2010 to 1.31% for all

of 2011. Defaults include straight corporate bonds whose firms went bankrupt,

missed an interest payment and did not cure it within the grace or forbearance period,

or completed a distressed exchange. The 2011 rate is based on a mid-year market

size of $1.35 trillion, up by a sizeable $133 billion from a year earlier. In all, $17.8

billion of defaults were recorded in 2011 (Figure 1). Note in Figure 1 that the

historical weighted-average annual default rate is 3.99% over the 41 year period

(1971-2011). This weighted-average rate is down compared to 4.25% at the end of

2010. Our weights are based on the par value of high-yield bonds outstanding in each

year. The arithmetic annual average default rate dropped to 3.23% from 3.28% one

year earlier.

The fourth-quarter 2011 default rate was 0.67%, larger than one quarter earlier (0.44%),

and indeed the highest quarterly default rate since the fourth-quarter 2009. Realizing a

quarterly default rate above 0.5% broke the seven-quarter streak of default rates below

that level. Since 1989, there have been two equally long or longer, consecutive quarterly

periods of default rates also below 0.5% -- seven from Q4 2003 to Q2 2005 and nine

from Q1 2006 to Q1 2008 (Figure 2 and Appendix A). Eighteen issuers defaulted in the

fourth quarter on 53 issues. These constitute 58% of all defaulting issuers and 68% of all

issues defaulting in 2011. In all, 31 issuers constituting 78 issues defaulted in 2011

(Appendix B), compared to 34 issuers and 50 issues in 2010. The average dollar amount

of defaulting bonds per defaulting issuer in 2011 was $575 million, compared to $406

million in 2010, and $1.04 billion in 2009. The most sizeable defaults during the year

were those of Dynegy Holdings LLC ($3.6 billion), NewPage Corp. ($3.2billion), Opti

Canada, Inc. ($2.6 billion) and AMR Corp. ($1.9 billion), all attributable to bankruptcy

filings. Excluding Angiotech Pharmaceuticals, Inc., with $575 million in total bond

defaults, the remaining issuers to default in 2011 have bond default totals of less than

$500 million.

In our default statistics, we include those bonds from distressed exchanges actually

tendered. For example, in the Dune Energy exchange, $297 million of bonds were

exchanged of the $300 million outstanding and subject to the exchange offer. In

2011, there were eight distressed exchanges, involving as many companies,

comprising $1.71 billion of defaults (9.6% of the total). See Appendix C for the list

of 2011 distressed exchanges and later our discussion of these restructurings.

In 2011, S&P and Moody’s issuer-denominated default rates were 1.98% and 1.82%,

respectively. Moody’s 1.12% dollar-denominated default rate was lower than its

issuer-denominated rate, as is usually the case when credit markets are in a strong,

low default, benign state.1 Fitch’s dollar-denominated default rate for 2011 was

1.5%.

1 High Yield Bonds: Default and Loss Rate Comparison – Mid-Cap Versus Large-Cap Issuers, M. Verde, P. Mancuso and E. Altman

November 11, 2005, Fitch.


5

The issuer-based default rate for the last 12 months in the US leveraged loan market

was 0.62% (Figure 3), and 0.17% based on amount of issuance, according to S&P’s

LCD compilations. This is in stark contrast to the significantly higher rates of 2.86%

and 1.87%, respectively, at the end of 2010. Leveraged loans, according to S&P, are

secured loans issued by non-investment grade companies. As such, their index does

not include the rare case of a fallen-angel secured loan unless that loan became

secured in a distressed exchange, but was unsecured when originally issued.

As with bond defaults, issuer-based default rates tend to be higher than dollar-

denominated rates during benign credit periods for leveraged loans, and the reverse

is true during stressed periods. During the latter periods we tend to observe not only

more defaults, but larger firms are less likely to survive.

Four leveraged loan issuers defaulted in 2011 (Appendix D), compared to 20 in

2010. According to our comparison between high-yield bond defaults (Appendix B)

and leveraged loan defaults (Appendix D), only one firm, Sbarro, Inc., had both

bonds and leveraged loans default in 2011.

See Figure 4 for the association between dollar-denominated bond default rates and

economic recessions in the U.S. since the early 1970’s, including the recession that

recently ended in mid-2009. As usual, we see the default rate peaking at or near the

end of the recession, although we observed the peak before it was confirmed that the

recession had indeed ended in June, 2009.

Our forecast for 2012 is for a high-yield bond default rate of 4.28%. If the extremely

liquid markets of 2010 and most of 2011 persist, and the proportion of low-rated

companies that are able to tap both the debt and equity markets for refinancing

continues, our forecast will likely be on the high-side. We will explore at a later

stage the statistical associations that support our relatively high expected defaults,

which are somewhat above that of other forecasts. Associated to this forecast, there

are several important risks on the horizon (see discussion later) that have increased

the required yield on high-yield bonds beyond what the miniscule recent default rates

imply.


6

Figure 1. Historical Default Rates — Straight Bonds Only, Not

Including Defaulted Issues From Par Value Outstanding, 1971–2011

(Dollars in Millions)

Par Value

Year

Outstandinga

($) Defaults ($)

Default Rates

(%)

2011 1,354,649 17,813 1.315

2010

2009

1,221,569

1,152,952

13,809

123,878

1.130

10.744

2008 1,091,000 50,763 4.653

2007 1,075,400 5,473 0.509

2006 993,600 7,559 0.761

2005 1,073,000 36,209 3.375

2004 933,100 11,657 1.249

2003 825,000 38,451 4.661

2002 757,000 96,858 12.795

2001 649,000 63,609 9.801

2000 597,200 30,295 5.073

1999 567,400 23,532 4.147

1998 465,500 7,464 1.603

1997 335,400 4,200 1.252

1996 271,000 3,336 1.231

1995 240,000 4,551 1.896

1994 235,000 3,418 1.454

1993 206,907 2,287 1.105

1992 163,000 5,545 3.402

1991 183,600 18,862 10.273

1990 181,000 18,354 10.140

1989 189,258 8,110 4.285

1988 148,187 3,944 2.662

1987 129,557 7,486 5.778

1986 90,243 3,156 3.497

1985 58,088 992 1.708

1984 40,939 344 0.840

1983 27,492 301 1.095

1982 18,109 577 3.186

1981 17,115 27 0.158

1980 14,935 224 1.500

1979 10,356 20 0.193

1978 8,946 119 1.330

1977 8,157 381 4.671

1976 7,735 30 0.388

1975 7,471 204 2.731

1974 10,894 123 1.129

1973 7,824 49 0.626

1972 6,928 193 2.786

1971 6,602 82 1.242

Standard

Deviation (%)

Arithmetic Average

Default Rate

1971 to 2011 3.229 3.177

1978 to 2011 3.494 3.369

1985 to 2011 4.093 3.510

Weighted Average

Default Rateb

1971 to 2011 3.994

1978 to 2011 4.001

1985 to 2011 4.027

Median Annual Default

Rate

1971 to 2011 1.708

a As of midyear.

b Weighted by par value of amount outstanding for each year.

Source: NYU Salomon Center.


7

Figure 2. Quarterly and the Four-Quarter Moving Average Default Rate

1989–2011

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

6.0%

4 -Q

uart

er M

ovin

g A

vera

ge

Qua

rter

ly D

efau

lt R

ate

Quarterly

Moving


Figure 3. S&P Leveraged Loan Index 12-Month Moving Average Default

Rate 1998–2011 (Number of Issuers)

0.00%

1.00%

2.00%

3.00%

4.00%

5.00%

6.00%

7.00%

8.00%

9.00%

De

c-9

8

Ap

r-9

9

Au

g-9

9

De

c-9

9

Ap

r-0

0

Au

g-0

0

De

c-0

0

Ap

r-0

1

Au

g-0

1

De

c-0

1

Ap

r-0

2

Au

g-0

2

De

c-0

2

Ap

r-0

3

Au

g-0

3

De

c-0

3

Ap

r-0

4

Au

g-0

4

De

c-0

4

Ap

r-0

5

Au

g-0

5

De

c-0

5

Ap

r-0

6

Au

g-0

6

De

c-0

6

Ap

r-0

7

Au

g-0

7

De

c-0

7

Ap

r-0

8

Au

g-0

8

De

c-0

8

Ap

r-0

9

Au

g-0

9

De

c-0

9

Ap

r-1

0

Au

g-1

0

De

c-1

0

Ap

r-1

1

Jan

-00

De

c-1

1

Source: Standard & Poor’s LCD.


8

Figure 4. Historical Default Rates and Recession Periods in the US

High-Yield Bond Market, 1972–2011

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10

Periods of Recession: 11/73–3/75, 1/80–7/80, 7/81–11/82, 7/90–3/91, 4/01–12/01, 12/07–

6/09.

Sources: Figure 1 of this report and National Bureau of Economic Research.

Bankruptcies

As can be seen in Figure 5, the amount of total liabilities for Chapter 11 bankruptcies

in 2011 was $109.1 billion, based on 84 filings. Even though the total number of

filings, for bankruptcies with liabilities greater than $100 million, decreased from

year-end 2010, and was the lowest since 2007, the total amount of liabilities almost

doubled from the prior year. MF Global Holdings Ltd. was the largest bankruptcy

filing in 2011, with $39.7 billion in liabilities, followed by AMR Corp. ($29.6

billion). Appendix E lists this year’s large Chapter 11 bankruptcies.

Figure 5. Total Filings and Liabilitiesa of Public Companies Filing

for Chapter 11 Bankruptcy, 1989–2011

0

40

80

120

160

200

240

280

$0

$100

$200

$300

$400

$500

$600

$700

$800

$ B

illi

on

Pre- Petition Liabilities, in $ billions (left axis) Number of Filings (right axis)

2010

114 filings and liabilities of $56.9 billion

2011

84 filings and liabilities of

$109.1 billion

a Minimum $100 million in liabilities.

Sources: Appendix E and the NYU Salomon Center Bankruptcy Filings Database.

The number of billion-dollar bankruptcies in 2011 decreased by half from 14 in the

prior year to seven, and was lower than the average over the 31 year period (1980-


9

2011) of 11. No single industry seemed to account for the majority of the larger

bankruptcies, as transportation, manufacturing, utility, retail, finance and leisure and

entertainment companies are all represented in the short list of billion-dollar-

bankruptcies (Appendix F).

According to New Generation Research, the number of public companies bankruptcy

filings in 2011 was 73. The average of total liabilities for our public and private large

company bankruptcy filings (84) in 2011 was $1.30 billion, up considerably from

$500 million one year earlier, but still below the historical average of $1.65 billion

(Figure 6).

Figure 6. Historical Bankruptcy Filings 1980–2011

Year Total Filingsa

Total Filingsb

(>$100

Million)

Total Filings

(≥$1 Billion)

Total

Liabilitiesb

($ MN)

(>100 Million)

Average

Liabilitiesb

($ MN)

(>100 Million)

2011 86 84 7 109118.9 1299.0

2010 106 114 14 56805.7 498.3

2009 211 234 50 603992.3 2581.2

2008 138 145 24 724010.4 4933.2

2007 78 38 8 72646.4 1911.7

2006 66 32 4 22321.6 697.6

2005 86 35 11 142625.2 4075.0

2004 93 44 11 39549.7 898.9

2003 176 102 26 115171.8 1129.1

2002 229 135 41 336611.7 2493.4

2001 265 169 38 228604.1 1352.7

2000 187 136 23 98895.8 727.2

1999 145 109 19 70957.1 651.0

1998 122 56 6 32038.3 572.1

1997 83 36 5 18865.9 524.1

1996 86 32 0 11687.0 365.2

1995 85 32 7 27153.0 848.5

1994 70 24 1 8396.0 349.8

1993 86 37 4 17701.1 478.4

1992 91 37 14 64224.1 1735.8

1991 123 51 11 81157.9 1591.3

1990 115 35 10 41115.1 1174.7

1989 135 22 10 33538.9 1524.5

1988 122 14 2 6905.0 493.2

1987 112 12 1 25421.0 2118.4

1986 149 11 3 9335.4 850.5

1985 149 14 2 8605.2 614.7

1984 121 12 0 3440.0 286.7

1983 89 14 3 13674.0 976.7

1982 84 12 3 7113.0 592.8

1981 74 6 1 3960.0 660.0

1980 62 4 0 746.0 186.5

Total 3824 1838 359 3,036,586.0 1,652.1

a Represents both Chapter 7 and 11 public company filings; 73 Chapter 11

Filings in 2011 (Source: New Generation Research). b Filings with Total

Liabilities greater than $100 million (Source: NYU Salomon Center Bankruptcy

Filings Database). C Filings with Total Liabilities greater than $1 billion

(Source: NYU Salomon Center Bankruptcy Filings Database and New Generation

Research).

In Figure 7, we compare the date of default with the Chapter 11 filing date for firms

that defaulted on bonds and also went bankrupt, going back to 1981. Based on 946

observations from the NYU Salomon Center Master Default and Bankruptcy

Databases, both events occurred on the same date in 482 instances (51%). In the

remaining 49% of the cases, the lag between the default date and bankruptcy date


10

varied considerably, with decreasing levels as the two dates became further separated

from each other. Of course, some defaulting issuers never formally file for

bankruptcy as their problems are settled out of court or the default comes as a result

of a distressed exchange (DE), and they do not file for bankruptcy in subsequent

years (many (almost half) DEs do, however – see our discussion at a later point).

Figure 7. Time Differential Between Default and Bankruptcy Filinga

(1981–2011)

0%

10%

20%

30%

40%

50%

60%

0 2 4 6 8 10 12 14 16 18 20 22 24 26 28 29 31 33 35

% o

f th

e T

ota

l Ob

serv

atio

ns

Number of Months Lag

(482)

a

Based on 946 observations.

Source: NYU Salomon Center Default and Bankruptcy Filings Databases.

Industry Defaults

Figure 8 lists the number of high-yield bond defaults by industry. Of the 31

defaulting issuers in 2011, communications and media, energy, retailing and

transportation were industries in which a total of 19 firms defaulted. The remaining

12 defaulting issuers were spread over various industries. Appendix F presents a

more detailed breakdown of all 31 defaulting issuers.

Figure 9 shows high-yield corporate bond defaults across industries per dollar

amount since 1990. Although only two issuers defaulted in the utilities sector, it

boasted the largest dollar amount of defaults in 2011, almost exclusively attributable

to the Dynegy Holdings default. As in the past, we observe that the communications

and media sector far outdistanced all other sectors in the dollar amount of defaulting

issues over the last 21 years, primarily the result of the telecom meltdown during

2000–02, as well as 2009’s defaults due to large-scale bankruptcies.


11

Figure 8. Corporate Bond Defaults by Industry (Number of Companies)

Industry

1970

–89 90 91 92 93 94 95 96 97 98 99 2000 01 02 03 04 05 06 07 08 09

10 11 Total

Auto/Motor Carrier 6 3 1 1 1 4 3 8 9 1 37

Conglomerates 5 1 3 3 1 1 1 15

Energy 35 4 2 3 1 1 13 1 7 6 1 1 4 8 5 92

Financial Services 21 7 14 3 2 1 2 1 2 6 1 6 4 5 6 2 3 2 5 7 7 2 109

Leisure/

Entertainment

9 8 2 4 3 4 3 1 5 5 8 9 6 5 6 3 10 12 3 1

107

General Manufacturing 26 5 8 8 7 3 8 6 7 6 16 23 43 22 13 17 12 6 7 10 36 4 1 294

Health Care 4 2 1 1 1 2 2 8 6 3 4 3 2 1 1 2 1 44

Miscellaneous Industries 16 4 4 3 1 1 1 3 3 16 34 38 25 16 6 1 4 3 4 4 3 2 192

RealEstate/

Construction

14 7 5 1 2 1 2 1 4 6 4 3 2 1 6 11 5 2

77

REIT 12 1 1 14

Retailing 10 6 15 6 4 5 6 3 6 6 12 7 12 5 5 3 2 2 3 5 5 3 8 139

Comm. & Media 17 3 4 1 1 3 2 2 1 6 11 8 39 26 21 6 3 2 4 10 20 6 3 199

Transportation

(Non Auto)

9 1 2 2 2 1 8 5 7 7 6 2 5 1 7 3

68

Utilities 2 1 1 1 1 1 3 1 2 13

Total 186 47 62 34 22 19 28 15 29 37 98 107 156 112 86 39 34 23 19 63 119 34 31 1,400



12

Figure 9. Corporate Bond Defaults by Industry (Dollars in Millions)

Industry 1990 1991 1992 93-94 1995 1996 1997 1998 1999 2000 2001

Auto/Motor

Carrier 468 90 215 300 100 430 120 3,737

Conglomerates

Energy 60 103 600 75 100 3,812 217 4,200

Financial

Services 928 696 536 78 687 700 66 689 375 1,968 5,062

Leisure/

Entertainment 498 1,191 159 138 435 293 245 1,100 2,891 3,437

General

Manufacturing 2,675 3,695 488 118 616 641 123 247 2,092 2,507 3,138

Health Care 18 1,120 75 125 2,214 1,715 692

Miscellaneous

Industries 1,968 4,911 1,378 1,373 1,286 832 461 1,290 7,615 8,352 9,715

Real Estate/

Construction 2,605 417 113 124 190 258 383 385 252 1,110

Retailing 4,443 2,937 1,489 2,832 395 164 2,504 1,241 2,052 3,081 1,586

Communications

& Media 460 286 1,549 2,980 5,983 34,827

Transportation

(Non Auto) 1,028 1,452 301 562 1,125 310 2,890 1,430

Utilities 1,452 617 85 275 202 75

Total 14,631 18,021 4,883 5,649 4,536 3,465 4,200 6,994 23,440 29,976 68,934

Industry 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Total

Auto/Motor

Carrier 285 280 3,573 2,692 1,382 16,872 173 30,717

Conglomerates 100 690 275 1,065

Energy 2,734 7,399 8,895 50 1,511 1,993 3,414 35,163

Financial

Services 3,803 1,079 110 541 156 26,973 29,274 2,429 777 76,926

Leisure/

Entertainment 21,242 633 1,286 6,861 715 6,022 10,395 1,805 196 59,542

General

Manufacturing 2,455 2,108 225 1,396 1,486 2,379 3,747 26,072 850 3,205 60,263

Health Care 115 3,843 360 520 150 495 575 12,016

Miscellaneous

Industries 5,594 4,494 1,977 569 409 1,396 1,505 1,535 373 337 57,369

Real Estate/

Construction 1,088 77 1,783 174 2,158 4,803 952 478 17,351

Retailing 4,092 877 749 1,059 332 363 1,412 1,015 525 1,693 34,841

Communications

& Media 47,953 7,603 2,551 150 1,496 765 5,904 30,954 2,787 687 146,935

Transportation

(Non Auto) 4,711 2,086 2,421 12,376 272 964 2,268 34,196

Utilities 2,501 5,875 3,594 4,011 18,686

Total 96,673 36,764 11,657 35,954 7,559 5,473 50,763 123,878 13,809 17,813 585,071


Age of Defaults

Figure 10 shows the age distribution of defaults in 2011 and for the period 1991–

2011. Defaults in 2011 did not, for the most part, closely follow the normal pattern of

low defaults in the first year after issuance, followed by high relative default rates in

years through two to five. In fact, only 23% of the defaults occurred within four

years after issuance, while 50% took place within five to eight years after issuance,

and the majority of the remaining 27% occurred more than 10 years after issuance.

This anomaly, with a relatively large proportion of defaults occurring later after

issuance than is typical, was primarily attributable to the default of many older bonds

issued by AMR Corp.. Figures 10 and 11 show the long-term historical pattern,

highlighting the most vulnerable years as two through five.


13

Figure 10. Distribution of Years to Default From Original Issuance Date (By Year of

Default), 1991–2011

1991 1992 1993/1994 1995 1996/1997 1998 1999

Years

to No. of % of No. of % of No. of % of No. of % of No. of % of No. of % of No. of % of

Default Issues Total Issues Total Issues Total Issues Total Issues Total Issues Total Issues Total

1 0 0 0 0 3 8 1 3 7 14 2 6 32 26

2 18 13 0 0 6 16 9 28 7 14 5 15 37 30

3 26 19 7 13 5 14 7 22 7 14 10 30 15 12

4 29 21 10 19 2 5 3 9 17 36 3 9 14 11

5 35 26 8 15 4 11 1 3 4 8 10 30 7 6

6 10 7 12 22 8 22 2 6 5 10 2 6 8 6

7 4 3 5 9 7 19 2 6 0 0 1 3 10 8

8 10 7 4 7 0 0 2 6 0 0 0 0 2 2

9 3 2 0 0 0 0 4 13 0 0 0 0 0 0

10+ 2 1 8 15 2 5 1 3 2 4 0 0 0 0

Total 137 100 54 100 37 100 32 100 49 100 33 100 125 100

2000 2001 2002 2003 2004 2005 2006/2007

Years

to No. of % of No. of % of No. of % of No. of % of No. of % of No. of % of No. of % of

Default Issues Total Issues Total Issues Total Issues Total Issues Total Issues Total Issues Total

1 19 10 40 12 29 8 18 9 8 10 16 9 3 3

2 51 28 69 21 51 15 30 15 7 9 13 7 5 6

3 56 31 87 26 61 18 26 13 8 10 9 6 12 14

4 14 8 65 19 56 16 23 11 6 8 22 12 14 16

5 13 7 27 8 45 13 40 20 10 13 14 8 7 8

6 5 3 14 4 21 6 20 10 16 21 17 9 13 15

7 12 7 21 6 8 2 25 12 9 12 13 7 8 9

8 4 2 5 1 7 2 3 1 6 8 11 6 12 14

9 3 2 4 1 12 3 5 2 1 1 5 3 7 8

10+ 6 3 3 1 54 16 13 6 6 8 64 34 6 7

Total 183 100 335 100 344 100 203 100 77 100 184 100 87 100

2008 2009 2010 2011 1991-2011

Years

to No. of % of No. of % of No. of % of No. of % of No. of % of

Default Issues Total Issues Total Issues Total Issues Total Issues Total

1 9 6 20 5 1 2 5 6 213 8

2 18 12 39 10 6 11 6 8 377 15

3 34 22 66 16 12 22 5 6 453 18

4 30 19 61 15 9 16 2 3 380 15

5 20 13 50 12 6 11 9 12 310 12

6 10 6 58 14 5 9 9 12 235 9

7 9 6 15 4 9 16 10 13 168 7

8 6 4 18 4 2 4 10 13 102 4

9 7 5 16 5 2 4 1 1 70 3

10+ 11 7 62 15 3 5 21 27 264 10

Total 154 100 405 100 55 100 78 100 2,572 100



14

Figure 11. Distribution of Years to Default From Original Issuance

Date: Summary Chart, 1991–2011

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

1 2 3 4 5 6 7 8 9 10+

% o

f All

Def

aulte

d Is

sues

# of Years to Default Since Issued


Fallen Angel Defaults

Five issuers were responsible for 23 defaulting issues that were investment grade at

some time prior to default. This results in a fallen-angel issuer default rate of 3.36%,

in-line with the historical average of 3.78% (Figure 12). The fallen-angel default rate

for 1985–2011 is slightly below the historical average annual rate for original issue

defaults in the high-yield bond market (4.73%). This differential (3.78% vs. 4.73%),

however, is not statistically significant due to a relatively high standard deviation of

around 270bp per year between the two rates. Figure 13 shows the fallen angel

proportion of defaults from 1977 to the present. In 2011, 29% of defaulted issues

were originally rated investment grade, slightly more than the historical average of

27%.


15

Figure 12. Fallen Angels Versus Original(S&P) Issue and All High

Yield Default Ratesa (In Percent), 1985-2011

Year

Fallen Angel

Average

12-Mo. Default

Rate

Original Issue

Speculative Grade

Default Rates

All Speculative

Grade Bond

Default Rates

Altman Dollar

Weighted Annual

Default Rates

2011 3.36 a 1.96 a 2.26 a 1.31

2010 1.76 3.43 3.27 1.13

2009 8.07 11.89 10.93 10.77

2008 3.07 4.34 4.02 4.65

2007 0.86 1.00 0.97 0.51

2006 1.40 1.23 1.26 0.76

2005 2.74 3.70 2.48 3.37

2004 0.83 2.65 2.23 1.25

2003 5.88 5.46 5.53 4.66

2002 6.59 8.55 8.32 12.79

2001 8.46 10.14 10.99 9.81

2000 7.01 7.10 7.03 5.07

1999 4.01 5.10 4.62 4.15

1998 3.31 2.75 2.23 1.60

1997 2.04 2.10 1.71 1.25

1996 1.38 2.00 1.71 1.23

1995 0.25 3.90 3.07 1.90

1994 0.00 2.31 1.70 1.45

1993 1.72 1.99 1.79 1.10

1992 4.50 5.48 5.45 3.40

1991 7.53 10.86 11.66 10.27

1990 5.77 8.30 8.20 10.14

1989 3.74 4.93 5.33 4.29

1988 4.25 3.39 3.95 2.66

1987 4.36 2.92 2.41 5.78

1986 2.46 6.29 4.78 3.50

1985 6.77 4.06 3.24 1.71

Arithmetic Average

3.78 4.73 4.49 4.09

Standard Deviation

2.45 2.94 3.07 3.51

a Issue based.

b All S&P issuer based except for Altman rates and 2011.

Sources: NYU Salomon Center and S&P.


16

Figure 13. Fallen Angel Defaulted Issues by Original Rating, 1977-

2011

Year Total No. Defaulted Issuesa

Originally Rated Investment

Grade (%)

2011 78 29

2010 55 15

2009 404 32

2008 154 31

2007 35 11

2006 52 13

2005 184 49

2004 79 19

2003 203 33

2002 322 39

2001 258 14

2000 142 16

1999 87 13

1998 39 31

1997 20 0

1996 24 13

1995 29 10

1994 16 0

1993 24 0

1992 59 25

1991 163 27

1990 117 16

1989 66 18

1988 64 42

1987 31 39

1986 55 15

1985 26 4

1984 14 21

1983 7 43

1982 20 55

1981 1 0

1980 4 25

1979 1 0

1978 1 100

1977 2 100

Total 2,836 27%

a Where we could find an original rating from either S&P or Moody's.

Sources: Moody's, NYU Salomon Center, and S&P.

Default Losses and Recoveries

The weighted-average recovery rate (based on market prices just after defaults) on

high-yield bond defaults in 2011 increased to 60.3%, considerably above the historic

average (1978-2011) of 45.3%. This is higher than the recovery rate of 46.6% in

2010 and is the highest rate since 2007. The default loss rate in 2011, without an

adjustment for fallen angels, and including the loss of 0.060% (6.0bp) from lost

coupons, was approximately 58.2bp (Figure 14). If we remove fallen angel defaults

(23 issues) the loss would have been 49.9bp on original issue high-yield bonds.

Of note is the fact that for a second consecutive year the recovery rate on fallen

angels, contrary to the norm, was lower than on original non-investment grade

bonds. This was the result of the AMR Corp. defaults, which recovered only 17% on

average. Over the 34-year period from 1978 to 2011, the arithmetic average annual

loss rate on high-yield bond defaults is 2.34%, 2.68% on a weighted-average basis

(Figure 15).


17

Figure 14. 2011 Default Loss Rate

Unadjusted for

Fallen Angels

(%)

Only Fallen

Angels (%)

All Except

Fallen Angels

(%)

Price Adjusted

for

Fallen Angels

(%)

Background Data

Average Default Rate 1.315 3.356 1.217 1.467

Average Price At Defaulta 60.281 39.301 63.596 60.751

Average Price At Downgradeb 52.368

Average Recovery 60.281 75.048 63.596 64.937

Average Loss Of Principal 39.719 24.952 36.404 35.063

Average Coupon Payment 9.103 7.803 9.275 9.103

Default Loss Computation

Default Rate 1.315 3.356 1.217 1.467

X Loss Of Principal 39.719 24.952 36.404 35.063

Default Loss of Principal 0.522 0.837 0.443 0.514

Default Rate 1.315 3.356 1.217 1.467

X Loss of 1/2 Coupon 4.551 3.902 4.638 4.551

Default Loss of Coupon 0.060 0.131 0.056 0.067

Default Loss of Principal

and Coupon

0.582 0.968 0.499 0.581

a If default date price is not available, end-of-month price is used.

b Downgrade to non-

investment grade. Note: Average Default Rate of “Only Fallen Angels” is based on number

of issuers.

Sources: NYU Salomon Center and various dealer quotes.


18

Figure 15. Default Rates and Losses,a 1978–2011 (Dollars in Millions)

Year

Par Value

Outstandinga

($)

Par Value

of Default

($)

Default

Rate (%)

Weighted

Price After

Default ($)

Weighted

Coupon (%)

Default Loss

(%)b

2011 1,354,469 17,813 1.31 60.3 9.10 0.58

2010 1,221,569 13,809 1.13 46.6 10.59 0.66

2009 1,152,952 123,878 10.74 36.1 8.16 7.30

2008 1,091,000 50,763 4.65 42.5 8.23 2.83

2007 1,075,400 5,473 0.51 66.6 9.64 0.19

2006 993,600 7,559 0.76 65.3 9.33 0.30

2005 1,073,000 36,209 3.37 61.1 8.61 1.46

2004 933,100 11,657 1.25 57.7 10.30 0.59

2003 825,000 38,451 4.66 45.5 9.55 2.76

2002 757,000 96,858 12.79 25.3 9.37 10.15

2001 649,000 63,609 9.80 25.5 9.18 7.76

2000 597,200 30,295 5.07 26.4 8.54 3.95

1999 567,400 23,532 4.15 27.9 10.55 3.21

1998 465,500 7,464 1.60 35.9 9.46 1.10

1997 335,400 4,200 1.25 54.2 11.87 0.65

1996 271,000 3,336 1.23 51.9 8.92 0.65

1995 240,000 4,551 1.90 40.6 11.83 1.24

1994 235,000 3,418 1.45 39.4 10.25 0.96

1993 206,907 2,287 1.11 56.6 12.98 0.56

1992 163,000 5,545 3.40 50.1 12.32 1.91

1991 183,600 18,862 10.27 36.0 11.59 7.16

1990 181,000 18,354 10.14 23.4 12.94 8.42

1989 189,258 8,110 4.29 38.3 13.40 2.93

1988 148,187 3,944 2.66 43.6 11.91 1.66

1987 129,557 7,486 5.78 75.9 12.07 1.74

1986 90,243 3,156 3.50 34.5 10.61 2.48

1985 58,088 992 1.71 45.9 13.69 1.04

1984 40,939 344 0.84 48.6 12.23 0.48

1983 27,492 301 1.09 55.7 10.11 0.54

1982 18,109 577 3.19 38.6 9.61 2.11

1981 17,115 27 0.16 72.0 15.75 0.15

1980 14,935 224 1.50 21.1 8.43 1.25

1979 10,356 20 0.19 31.0 10.63 0.14

1978 8,946 119 1.33 60.0 8.38 0.59

Arithmetic Average 1978–2011 3.49 45.30 10.59 2.34

Weighted Average 1978–2011 4.00 2.68

a Excludes defaulted issues.

b Default loss rate adjusted for fallen angels is 9.3% in

2002, 1.82% in 2003, 0.59% in 2004, 1.56% in 2005, 0.039% in 2006, 0.20% in 2007, 3.42%

in 2008, 7.38% in 2009,0.66% in 2010, and 0.58% in 2011.


Figure 16 lists the average recovery rate by seniority for 1978–2011. In 2011, 15 of

the defaulting issues were senior secured with an average recovery rate of 59.0%,

compared to a historical average of 57.6% (57.4% median). Forty-five of the issues

were senior unsecured with an average recovery rate of 64.0%, compared to a

historical average of 38.8% (46.8% median). The large discrepancy in the recovery

rate on this seniority, versus the historical average, was partially attributable to the

fact that 11 of the 45 defaults occurred as part of a distressed exchange (see below).

There were three issues that were senior subordinated with an average recovery of

42.8%, compared to an historical average of 30.6% (32.7% median). Two were

subordinated with an average recovery of 20.0%, compared to a historical average of

30.6% (27.5% median). There were no priced defaults in 2011 in the discount and

zero coupon category. Thirteen issues could not be priced. The historic 34-year

median for all high-yield bond defaults rose slightly to 42.1%, while the arithmetic

average increased as well to 38.2%. These latter statistics are based on a sample of

over 2,700 defaults.


19

Figure 16. Weighted Average (by Issue) Recovery Rates on Defaulted Debt by Seniority per

$100 Face Amount, 1978–2011

Senior Secured Senior Unsecured

Senior

Subordinated Subordinated

Discount and

Zero Coupon

All

Seniorities

Default

Year No. % $ No. % $ No. % $ No. % $ No. % $ No. $

2011 15 23 59.02 45 69 64.01 3 5 42.76 2 3 19.98 0 0 0.00 65 60.28

2010 6 24 39.46 12 48 57.86 5 20 30.64 2 8 12.67 0 0 0.00 25 46.62

2009 28 9 43.35 226 76 37.22 31 10 24.06 4 1 12.57 7 2 16.84 296 36.08

2008 18 14 30.52 79 63 49.56 23 18 30.25 4 3 21.09 1 1 2.71 125 42.52

2007 10 36 87.24 10 36 47.70 6 21 63.98 2 7 46.53 0 0 0.00 28 66.65

2006 9 18 90.60 26 52 60.90 8 16 50.24 1 2 60.33 6 12 78.31 50 65.32

2005 67 54 76.50 44 36 45.88 7 6 32.67 0 0 0.00 5 4 74.21 123 61.10

2004 27 39 63.67 33 48 56.77 2 3 37.44 0 0 0.00 7 10 43.06 69 57.72

2003 57 28 53.51 108 53 45.40 29 14 35.98 1 0 38.00 8 4 32.27 203 45.58

2002 37 11 52.81 254 75 21.82 21 6 32.79 0 0 0.00 28 8 26.47 340 25.30

2001 9 3 40.95 187 67 28.84 48 17 18.37 0 0 0.00 37 13 15.05 281 25.62

2000 13 8 39.58 47 29 25.40 61 37 25.96 26 16 26.62 17 10 23.61 164 26.74

1999 14 11 26.90 60 47 42.54 40 31 23.56 2 2 13.88 11 9 17.30 127 27.90

1998 6 18 70.38 21 62 39.57 6 18 17.54 0 0 0.00 1 3 17.00 34 40.46

1997 4 16 74.90 12 48 70.94 6 24 31.89 1 4 60.00 2 8 19.00 25 57.61

1996 4 17 59.08 4 17 50.11 9 38 48.99 4 17 44.23 3 13 11.99 24 45.44

1995 5 15 44.64 9 27 50.50 17 52 39.01 1 3 20.00 1 3 17.50 33 41.77

1994 5 23 48.66 8 36 51.14 5 23 19.81 3 14 37.04 1 5 5.00 22 39.44

1993 2 6 55.75 7 22 33.38 10 31 51.50 9 28 28.38 4 13 31.75 32 38.83

1992 15 22 59.85 8 12 35.61 17 25 58.20 22 33 49.13 5 7 19.82 67 50.03

1991 4 3 44.12 69 44 55.84 37 24 31.91 38 24 24.30 9 6 27.89 157 40.67

1990 12 10 32.18 31 27 29.02 38 33 25.01 24 21 18.83 11 9 15.63 116 24.66

1989 9 12 82.69 16 21 53.70 21 28 19.60 30 39 23.95 76 35.97

1988 13 21 67.96 19 31 41.99 10 16 30.70 20 32 35.27 62 43.45

1987 4 13 90.68 17 55 72.02 6 19 56.24 4 13 35.25 31 66.63

1986 8 14 48.32 11 20 37.72 7 13 35.20 30 54 33.39 56 36.60

1985 2 7 74.25 3 11 34.81 7 26 36.18 15 56 41.45 27 41.78

1984 4 29 53.42 1 7 50.50 2 14 65.88 7 50 44.68 14 50.62

1983 1 13 71.00 3 38 67.72 4 50 41.79 8 55.17

1982 16 80 39.31 4 20 32.91 20 38.03

1981 1 100 72.00 1 72.00

1980 2 50 26.71 2 50 16.63 4 21.67

1979 1 100 31.00 1 31.00

1978 1 100 60.00 1 60.00

Total/Avg

409 15 57.60 1,348

9

51 38.77 482 18 30.65 263 10 30.63 164 6 25.45 2,707 38.24

Median 57.39 46.79 32.73 27.50 17.40 42.15

Standard

Deva

17.94 13.48 13.73 17.15 20.70 13.75

a Standard deviations are calculated based on the yearly averages.

Sources: NYU Salomon Center from various dealer quotes.

Distressed Exchanges in 2011

Distressed exchanges (DEs) in 2011 accounted for 25.8% of the defaulted issuers (8

out of 31), but only 9.6% of the defaulted dollar amount. From 1984 through 2011,

DEs accounted for about 11.3% of all defaulting issuers and 12.4% of all defaulted

dollar amounts (Figure 17). Relatively speaking, 2011 was an above average year

for DE activity (third highest annual number in our 27 year time-series) from a

number of issuers perspective, but the value of the dollar amounts exchanged was

relatively low.

Figure 16 indicates the “popular” re-emergence of DEs in 2008–2011 as

compared to the last 27 years. Indeed, during this four year period, more than

56% (74 of 131) of all DEs took place. However, the pace at which DEs were

being sought as a restructuring alternative slowed considerably, at least in

absolute terms, in the second-half of 2009 and into 2010, as other avenues of

refinancing became available. Still, 26% in 2011 is a relatively high proportion


20

of total defaulting issuers (second highest ever), albeit based on a small total

number of defaults.

The concept of a DE has taken on an added level of importance and urgency of

late, especially as to whether such events will trigger a default in the credi t

default swap (CDS) market. Since early 2009, such events in the U.S. corporate

bond market do not constitute a default event, as per the typical I.S.D.A.

specification. “Voluntary” DEs in Europe, especially in the now crucial

sovereign debt markets, will probably not be considered a default – e.g. for

Greece. However, if write-downs escalate to 50% or more, as is now indicated,

such agreements are, in fact, equivalent to a default in our opinion.

Important too is the performance of a firm subsequent to completing a DE. As

discussed in an earlier study2, data would appear to indicate that a DE is

oftentimes just a short-term fix, unable to prevent future bankruptcy filings or

acquisitions. Please see below for our updated discussion of events subsequent

to completing a DE.

2 The Re-emergence of Distressed Exchanges in Corporate Restructurings, E. Altman and B. Karlin, NYU Salomon Center Working

Paper, 2009 (see E. Altman’s website, http://www.stern.nyu.edu/~ealtman) and published in The Journal of Credit Risk, Summer

2009.


21

Figure 17. High Yield Bond Distressed Exchange (D/E) Default and Recovery Statistics,

1984–2011

Year

D/E

Defaults

($)

Total

Defaults ($)

D/E

Defaults

(%)

to Total $

D/E

Defaults

(No. of

Issuers)

Total

Defaults

(No. of

Issuers)

D/E

Defaults

(%) to

Total No.

of Issuers

D/E

Recovery

Ratea

All

Default

Recovery

Ratea

Difference

Between D/E

& All

Default

Recovery

Rate

2011 1,713.90 17,812.63 9.6 8 31 25.8 79.47 60.28 19.18

2010 4,971.48 13,808.63 36.0 7 34 20.6 65.5 46.62 18.98

2009 22,960.13 123.878.02 18.5 45 119 37.8 42.49 36.08 6.41

2008 30,329.42 50,763.26 59.7 14 64 21.9 52.41 42.50 9.91

2007 146.83 5,473.00 2.7 1 19 5.3 85.17 66.65 18.52

2006 0.00 7,559.00 0.0 0 0 0 NA NA NA

2005 0.00 36,209.00 0.0 0 0 0 NA NA NA

2004 537.88 11,657.00 4.6 5 39 12.8 58.05 57.72 0.33

2003 1,034.94 38,451.00 2.7 7 86 8.1 78.52 45.58 32.94

2002 764.80 96,858.00 0.8 3 112 2.7 61.22 25.30 35.92

2001 1,267.60 63,609.00 2.0 5 156 3.2 33.12 25.62 7.50

2000 50.00 30,295.00 0.2 1 107 0.9 77.00 26.74 50.26

1999 2,118.40 23,532.00 9.0 6 98 6.1 65.39 27.90 37.49

1998 461.10 7,464.00 6.2 2 37 5.4 17.34 40.46 (23.12)

1997 0.00 4,200.00 0.0 0 0 0.0 NA NA NA

1996 0.00 3,336.00 0.0 0 0 0.0 NA NA NA

1995 0.00 4,551.00 0.0 0 0 0.0 NA NA NA

1994 0.00 3,418.00 0.0 0 0 0.0 NA NA NA

1993 0.00 2,287.00 0.0 0 0 0.0 NA NA NA

1992 0.00 5,545.00 0.0 0 0 0.0 NA NA NA

1991 76.00 18,862.00 0.4 1 62 1.6 31.30 40.67 (9.37)

1990 1,044.00 18,354.00 5.7 7 47 14.9 43.15 24.66 18.49

1989 548.90 8,110.00 6.8 7 26 26.9 44.53 35.97 8.56

1988 390.30 3,944.00 9.9 3 24 12.5 28.40 43.45 (15.05)

1987 33.60 7,486.00 0.4 2 15 13.3 40.70 66.63 (25.93)

1986 114.80 3,156.00 3.6 4 23 17.4 47.68 36.60 11.08

1985 323.30 992.00 32.6 2 19 10.5 55.04 41.78 13.26

1984 100.10 344.00 29.1 1 12 8.3 44.12 50.62 (6.50)

Totals/

Averages $75,893.65 $611,954.55 12.4% 131 1,164 11.3% 53.78b 43.09b 10.69 a

Weighted-average recovery rates for each year. b

Arithmetic average of the weighted-average annual recovery rates;

only those years with DEs counted. The arithmetic average of each individual DE (131) for the entire sample period

was 49.24% and the average for the non-DE defaults (1,033 observations) was 36.80%.


Recovery Rates on Distressed Exchanges

Because DEs are not as dramatic a reflection of a firm’s distressed status as a

bankruptcy or nonpayment of cash interest on debt, one might expect the

recovery rate on DE defaults to be higher than other, more serious distressed

situations. Of course, one reason for the larger recoveries in DEs is lenders need

to be offered a “premium” in order to be persuaded to participate in the

exchange.

Figure 17 shows the arithmetic average recovery rate on all DE defaults was 53.8%

for 1984–2011, compared to 43.1% for all defaults, and 36.8% for all non-DE

defaults (not shown in Figure 17). In 2011, DEs recovered 79.5%, while all defaults

recovered “only” 60.3%. The historical spread widened slightly from one year earlier

(10.7% versus 10.3%).

In Figure 18, we calculate a difference in means test between the arithmetic average

recovery rate (49.2%)3 on the 131 DE issuers (286 issues) during 1984–2011 and the

3 Please note that the weighted average recovery rate (53.6%) on our total sample of 131 DEs is slightly lower than simply averaging

the annual DE recovery rates over the 1984-2011 period (53.8%) in Figure 17.


22

average recovery rate on all non-DE defaults (36.8%) of the same period. We found

that given the above, the DE recovery rate is significantly higher (t = 8.23) at the 1%

confidence level. It is not surprising that bondholders will choose, in many instances,

to accept a recovery with certainty from a DE, rather than take the chance of holding

out for an uncertain — and likely lower — recovery in bankruptcy (see below). Our

results do not include data for situations where a DE offer is rejected.

Figure 18. Difference in Means Test Between Recovery Rates: All

Nondistressed Exchange Defaults Versus Distressed Exchanges (D/E),

1984–2011 (Based on Issues)

All Defaults Excluding D/E

(Issues)

Distressed Exchange

(Issues)

Sample Size 2311 286

Mean Recovery Rate 36.80 49.24

Standard Deviation 26.01 23.87

Variance 676.64 570.00

t-testa 8.22735

a

XDE XNDE

+

t =

√ Var XDE Var XNDE

NDE NNDE

Sources: NYU Salomon Center, and authors’ compilation.

In Figure 19, we calculate a difference in means test between the weighted average

recovery rates on the announcement date of a DE versus the completion date for the

recent period 2008 through 2011. Of the 42 defaulted issues in 2008 due to a DE, in

which prices were available for both the announcement and completion dates, the

weighted average recovery was approximately 13 percentage points higher on the

completion date, while in 2009 it was less so, with only a 4.9% difference in pricing

between the two dates (based on 106 observations). The reverse was true in 2010,

with the weighted average recovery on five issues being 4.6% higher on

announcement than completion date.4 2011 witnessed a return to the completion date

price being higher with a 10.86% difference in pricing between the two dates (based

on 11 observations). Overall, the completion date price was higher than the

announcement date in 86 of the 164 issues, just over 50% (52.4%) of the cases. For

the entire four-year sample period (2008-2011), the difference between the price at

completion of the DE vs. at the time of the announcement was 8.24%, significant at

the .01 level. Of course, market conditions in general can change between the two

dates.

4 The 2008 difference was significant at the .01 level; the 2009 difference at the .05 level; the 2010 difference was not significant; the

2011 difference was significant at the .05 level, and the Difference for all four years was significant at the .01 level..


23

Figure 19. Distressed Exchange Weighted Average Recovery Rates:

Announcement Date versus Completion Date, 2008–2011

Year

# of

Observations Announcement Date

Completion

Date Difference t-test

2008 42 42.68 55.64 12.97 2.69469a

2009 106 36.51 41.41 4.91 1.44079b

2010 5 70.17 65.60 -4.57 -0.33853c

2011 11 56.85 67.71 10.86 1.75505 b

Total 164 42.80 51.04 8.24 3.13323a

a Significant at the .01 level. b Significant at the .05 level. c Not significant.


Subsequent Performance of Distressed Exchange Companies

For the first time in several years, we are able to update our initial study5 which

tracked the performance of those firms which had achieved a successful Distressed

Exchange (DE), in most cases to avoid a bankruptcy filing. Our new sample involves

all corporate bond DEs over the period 1984-2008 for which we are able to

confidently ascertain the current status of the firms, including those that filed for

bankruptcy subsequent to the DE. We document the status of 72 DEs, and our post-

DE experience covers at least three years. This updated sample includes 14 DEs from

the “class of 2008,” a very active year, accounting for almost 20% (14/72) of the

total.

Our primary interest in this study is to document the success, or not, of the DE with

respect to providing an effective means for firms to restructure their debt so as to

avoid the usually more drastic default experience of a Bankruptcy filing – either

Chapter 7 liquidation or Chapter 11 reorganization. Since liquidation or

reorganization under the Federal Bankruptcy Code results in statistically significant

lower recoveries to creditors than do DEs (see earlier Figure17), and almost

assuredly results in greater numbers of lost jobs, revenues and taxes than for firms

which effectively restructure and survive outside the court, it is extremely relevant to

observe if the DE helps to preserve the going concern value of the enterprise. If the

DE only postpones the firms’ bankruptcy, then we argue that the DE was not a

genuine success. In addition, the subsequent performance of DE companies has

important implications for those investors whose original bonds are exchanged for

new securities.

We have arbitrarily chosen a minimum of a three-year post-DE period to observe the

performance of the companies in our sample. This period, we believe, gives ample

time to assess whether or not the firm’s DE has resulted in a continuing entity. At the

same time, we believe that subsequent bankruptcies beyond the three year period are

also clearly problematic and therefore we continue to track the performance of the

DEs from before 2008, as well as the latest class being analyzed – the class of 2008.

Our post-DE experience is broken down into the following categories:

(1) Still Operating

5 “The Re-emergence of Distressed Exchanges in Corporate Restructurings”, E. Altman and B. Karlin, The Journal of Credit Risk,

Summer 2009.


24

(2) Acquired

(3) Bankrupt – Chapter 11

(4) Bankrupt – Chapter 7

(5) Bankrupt After Being Acquired

The first two categories constitute our depiction of a successful DE, either in terms

of the complete continuity of the “old” firm or as a part of a merged entity that is still

operating (some of these “successful” DEs are perhaps questionable if a second DE

took place to avoid a subsequent bankruptcy). The last three categories constitute a

failed DE, at least in terms of a subsequent bankruptcy filing.

Figure 20 shows the post-DE results for our sample of 72 DEs from 1984-2008.

First, we describe the type of DE in terms of the securities, or cash, used in the

exchange. The most popular mechanism is a Debt for Debt exchange with 24 (33%)

of the 72 firms using a new issue of debt to substitute for the old debt. An additional

18 (25%) utilized new debt combined with either cash, equity, or both. Therefore,

58% of DEs resulted in the firm having at least some proportion of newly exchanged

debt as part of its capital structure. Twenty-one (29%) utilized equity as all or part of

the DE and another 21 (29%) utilized cash in the exchange. Ten (14%) could not be

determined.

In terms of success, or not, of the DE, we found that 33 of the 72 DEs in our sample

(45.8%) ultimately filed for bankruptcy – 27 Chapter 11’s (two after being acquired)

and six Chapter 7’s. These we label unsuccessful DEs, although it may have taken a

long time for the bankruptcy filing (in one case, the eventual filing took almost 19

years). The average time between the DE date and the subsequent filing was 2.62

years, while the median time was only 1.67 years. When we observed the sample of

DEs from the earlier 1984-2007 period, 27 (46.5%) ultimately filed for bankruptcy,

very similar to our updated, larger sample.

As expected, we found that very few DEs that utilized lower risk equity in the DE

ultimately filed for bankruptcy. Out of the 33 bankrupt DEs, only 7 (21%) utilized

either all equity or a combination of equity and cash (Figure 21). Indeed, 18 (58%)

utilized debt alone or some combination of securities that included new debt, and if

we exclude the “undetermined” category (5), the percent using new debt swells to

64%.

In conclusion, we believe that while DEs are an effective mechanism to avoid an

imminent bankruptcy filing, in almost half of the cases, the reprieve was only

temporary, and the firms’ problems continued to persist. Of course, since perhaps

(some DEs eventual fate is undetermined) more than half of our sample resulted in

success, the DE effect was worthwhile, in those cases. Indeed, 39 of the 72 firm DE

sample are classified as successes, though six endured a subsequent, second DE.


25

Figure 20. Subsequent Performance of Bond Distressed Exchanges, 1984–2008

Exchange Type Subsequent Development

Years from DE to

Bankruptcy

Debt 24 33% Bankruptcy – Ch. 7 6 8% Count 33

Cash 7 10% Bankruptcy – Ch. 11 25 35% Mean 2.62

Equity 10 14% Acquired 19 26% Median 1.67

Debt/Equity 7 10% Still Operating 17 24% Maximum 18.83

Debt/Cash 10 14% Acquired – Subsequent Ch. 11 2 3% Minimum 0.02

Equity/Cash 3 4% Other 3 4%

Debt/Equity/Cash 1 1%

Undetermined 10 14% Total 72 100%

Total 72 100%

Still Operating – Subsequent DE 6 8%

Source: Altman-Kuehne Default Database – NYU Salomon Center.

Figure 21. Distressed Exchanges Resulting in Bankruptcy, 1984–2008

Chapter 11 Exchange Type

Debt Cash Equity Debt/Equity Debt/Cash Equity/Cash Undetermined Total

9 2 6 1 4 1 4 27

33% 7% 22% 4% 15% 4% 15% 100%

Chapter 7 Exchange Type

1 1 0 1 2 0 1 6

17% 17% 0% 17% 33% 0% 17% 100%

Total

10 3 6 2 6 1 5 33

30% 9% 18% 6% 18% 3% 16% 100%

Source: Altman-Kuehne Default Database – NYU Salomon Center.

Forecast Recovery Versus Actual

The 2011 weighted-average recovery rate of 60.3% was significantly above our

linear or non-linear regression default/recovery rate forecasting models’ predictions

(Figure 22).6 We would have expected the average recovery rate to be closer to the

51%-53% range, based upon the model that we developed.

6 “The Link Between Default and Recovery Rates: Theory, Empirical Results and Implications,” Altman, Brady, Resti and Sironi,

Journal of Business, November 2005.


26

Figure 22. Recovery Rate/Default Rate Association, Dollar Weighted

Average Recovery Rates to Dollar Weighted Average Default Rates,

1982–2011

2005

2004

2003

20022001

2000

1999

1998

19971996

19951994

1993

1992

1991

1990

1989

1988

1987

1986

1985

1984

1983

1982

20062007

2008

2009

2010

2011

y = -2.3137x + 0.5029

R2 = 0.5361

y = -0.1069Ln(x) + 0.0297

R2 = 0.6287

y = 30.255x2 - 6.0594x + 0.5671

R2 = 0.6151y = 0.1457x-0.2801

R2 = 0.6531

10%

20%

30%

40%

50%

60%

70%

0% 2% 4% 6% 8% 10% 12% 14%

Reco

very

Rat

e

Default Rate Regression equations are based on data from 1982–2003, with later years data points

inserted to show the model’s effectiveness.

Sources: “The Link Between Default and Recovery Rates: Theory, Empirical Results and

Implications,” Altman, Brady, Resti, and Sironi, Journal of Business, November 2005, and

NYU Salomon Center.

Related Recovery Statistics

The recovery rate (based on price just after default) on corporate high-yield bond

defaults has a fairly high variance in terms of the wide spectrum of possible outcomes,

with a standard deviation of about 25%. Figure 23 shows the frequency distribution of

individual issue recovery rates on over 2,600 corporate bond defaults of all seniorities

since 1971. Note that the modal value is only in the 10–20% range, even though our

historical average recovery rate range is much higher (35–40% arithmetic average and

40-45% weighted average).

Figure 23. Corporate Bond Default Recovery Rate Frequency (Based on

Number of Issues 1971–2011)

0

100

200

300

400

500

600

0-10 10-20 20-30 30-40 40-50 50-60 60-70 70-80 80-90 90-100 >100

Freq

uenc

y

Recovery Rate Range (%)

Number of Observations = 2,637.

Source: NYU Salomon Center Default Database.


27

Figure 24 shows the average price at default based on the number of years after

issuance. Although we observe some aging effect with the recovery rate increasing as

the years to default increases, there is not a great deal of difference between the first

five years (32–38%) and the sixth through ninth years (40–42%). The latter period is

more likely to comprise fallen angel defaults than the former.

Figure 24. Average Price at Default by Number of Years After

Issuance (1971–2011)

Years to Default No. of Observations Average Price ($)

1 184 34.28

2 390 34.70

3 483 32.54

4 390 37.65

5 315 38.20

6 273 42.10

7 178 41.71

8 107 42.02

9 65 39.75

10 222 33.77

All 2,607 36.74


Figure 25 shows the recovery rate by original rating for the entire corporate bond

default database over the last 41 years. As expected, the higher the original rating,

the greater the average recovery rate, but only in the investment-grade original rating

range — that is, among fallen angels. Once below BBB, the weighted-average

recovery rate varies narrowly, 35–39%. However, we observe the median recovery

rates follow a continuous drop as the original rating falls.

Figure 25. Average Price after Default by Original Bond Rating,

1971-2011

Rating

No. of

Observatio

ns

Average

Price ($)

Weighted

Price ($)

Median

Price ($)

Std.

Dev. ($)

Minimum

Price ($)

Maximum

Price ($)

AAA 14 82.55 92.87 95.00 21.92 32.00 106.13

AA 36 60.39 69.68 55.25 28.77 17.80 103.00

A 257 47.17 45.70 43.50 27.64 0.50 100.00

BBB 485 40.07 33.51 39.00 23.88 1.00 103.00

BB 285 39.09 35.36 36.00 23.49 1.00 107.75

B 1346 35.06 34.59 29.50 25.35 0.02 116.63

CCC 324 37.28 37.14 28.95 29.12 0.13 106.75

Total 2747 38.39 36.91 33.00 26.19 0.02 116.63


Earlier we showed that seniority makes a large difference in expected recoveries. It is

true that the likelihood is greater that an investment-grade bond at issuance will have

senior priority than one would expect from noninvestment-grade original issue

bonds. Figure 26 shows the recovery rate by seniority, contingent upon if the original

issue was rated investment grade.


28

Figure 26. Recovery Rates by Seniority and Original Rating, Corporate Bond Defaults (By

Issue, 1971–2011)

Seniority Original Rating

No. of

Issues

Mean Price

($)

Weighted

Price ($)

Median Price

($) STD

Minimum

Price ($)

Maximum

Price ($)

Senior Secured

Investment Grade

147 52.94 56.76 50.00 26.94 3.00 106.13

Non-Investment Grade

283 44.55 45.73 39.63 29.53 1.00 106.75

All 480 46.83 47.68 43.75 28.45 0.05 106.75

Senior Unsecured

Investment Grade

502 43.10 40.23 41.00 25.28 2.00 100.50


687 37.19 35.37 32.00 24.79 0.02 116.63

All 1301 39.62 37.69 35.00 25.15 0.02 116.63

Senior Subordinated

Investment Grade

16 37.10 34.29 27.31 27.48 1.00 83.75


440 32.33 29.45 27.50 24.40 0.13 107.75

All 484 32.22 29.43 27.00 24.39 0.13 107.75

Subordinated Investment Grade

24 20.81 6.55 7.00 26.46 0.05 103.00


205 32.49 29.45 28.83 22.64 1.00 112.00

All 242 31.13 21.68 27.75 23.03 0.05 112.00

Discount Investment Grade

1 13.63 13.63 13.63 13.63


103 27.48 26.29 17.31 25.16 0.42 102.50

All 130 26.84 26.31 18.00 23.51 0.42 102.50


From Figure 26, we see considerably higher recoveries between investment-grade

and noninvestment-grade bonds for senior secured (52.9% versus 44.6%) and senior

unsecured (43.1% versus 37.2%), less of a difference for the senior subordinated

class (37.1% versus 32.3%), and the reverse for the subordinated class. Likewise, as

seniority is reduced, we see a reduction in recoveries for the investment-grade issues,

but not much difference for the noninvestment-grade securities.

Finally, in Figure 27, we break down recoveries by seniority for different major

industrial sectors. The sectors are the same as itemized earlier when we observed the

incidence of defaults per industrial sectors (Figures 8 and 9). The overall weighted-

average recovery rates are highest for utilities (60.1%), energy (52.7%), and financial

services (47.1%), and lowest for general manufacturing (31.1%), communications

and media (28.1%), and auto/motor carrier (25.8%). The rest vary between 32–46%.


29

Figure 27. Recovery Rates by Industry and Seniority (1971–2011)

Industry Seniority

No. of

Issues

Mean Price

($)

Weighted

Price ($)

Median

Price ($) STD

Minimum Price

($)

Maximum

Price ($)

Auto/Motor Carrier Senior Secured 16 30.78 24.96 24.00 24.46 2.71 92.00

Senior Unsecured 75 30.24 26.48 27.00 22.74 4.00 93.60

Senior Sub 20 27.26 21.77 23.50 19.93 3.00 71.00

Subordinated 4 34.28 25.71 27.00 21.25 18.00 65.13

Senior Sub +Sub 24 28.43 22.21 25.00 19.85 3.00 71.00

All 115 29.94 25.84 27.00 22.24 2.71 93.60

Conglomerates Senior Unsecured 3 44.92 47.94 53.38 14.65 28.00 53.38

Senior Sub 1 71.00 71.00 71.00 71.00

Subordinated 2 11.50 15.19 11.50 9.19 5.00 18.00

Senior Sub +Sub 3 31.33 22.52 18.00 34.96 5.00 71.00

All 6 38.13 40.93 40.69 25.10 5.00 71.00

Energy Senior Secured 35 63.07 64.05 49.00 31.42 14.00 104.50


Senior Sub 29 39.95 48.61 35.00 25.46 1.00 107.75

Subordinated 26 25.38 25.39 21.13 12.19 9.50 55.00

Discount 1 45.26 45.26 45.26 45.26

Senior Sub +Sub 55 33.07 43.99 28.00 21.42 1.00 107.75

All 165 44.63 52.65 37.50 26.93 1.00 116.63

Financial Services Senior Secured 18 31.00 25.51 14.00 24.94 2.00 94.00


Senior

Subordinated

20 31.97 28.85 28.00 24.07 1.00 92.00

Subordinated 30 20.99 8.77 4.50 26.42 0.50 103.00

Senior Sub +Sub 50 25.38 12.65 17.25 25.83 0.50 103.00

All 230 42.58 47.05 38.00 29.09 0.02 103.00

Leisure & Senior Secured 38 51.24 56.29 52.50 25.85 0.05 106.00

Entertainment Senior Unsecured 45 38.73 30.66 28.11 27.45 3.75 100.00

Senior Sub 41 30.39 26.73 23.00 25.40 3.00 99.00

Subordinated 22 45.07 48.53 36.00 29.53 7.00 112.00

Discount 2 18.88 20.74 18.88 9.73 12.00 25.76

Senior Sub +Sub 63 35.52 32.03 28.83 27.59 3.00 112.00

All 146 40.31 37.58 35.00 27.63 0.05 112.00

General Mfg Senior Secured 82 40.76 44.61 39.22 25.90 1.75 106.75


Senior Sub 143 31.47 28.77 27.50 23.90 0.50 106.00

Subordinated 65 34.95 27.99 32.00 21.15 2.00 90.88

Discount 12 17.90 27.17 8.72 23.25 0.75 66.50

Senior Sub +Sub 208 32.56 28.57 28.95 23.08 0.50 106.00

All 503 33.99 31.11 29.50 23.47 0.25 106.75

Healthcare Senior Secured 2 91.25 97.38 91.25 10.25 84.00 98.50


Senior Sub 34 25.19 22.16 16.75 23.12 0.13 86.00

Subordinated 10 23.77 17.57 23.50 13.41 4.75 39.00

Discount 2 21.05 27.07 21.05 18.32 8.09 34.00

Senior Sub +Sub 44 24.87 21.45 18.00 21.17 0.13 86.00

All 61 32.23 33.57 29.00 24.91 0.13 98.50

Misc. Industries Senior Secured 31 43.93 45.97 43.50 27.15 5.00 93.50


Senior Sub 34 35.26 36.45 27.90 25.89 1.00 96.00

Subordinated 8 38.67 17.59 34.07 23.53 4.00 88.00

Discount 5 4.37 4.27 4.03 2.79 0.75 8.00

Senior Sub +Sub 42 35.91 35.20 29.81 25.21 1.00 96.00

All 138 43.33 45.75 40.00 27.29 0.75 99.00

Real Estate Senior Secured 6 50.58 52.55 58.75 34.50 3.00 82.50

& Construction Senior Unsecured 69 46.04 37.60 43.00 21.93 4.00 100.50

Senior Sub 30 26.73 21.24 16.25 26.28 2.00 95.50

Subordinated 11 35.98 25.21 21.88 33.65 2.00 98.25

Discount 3 13.61 20.97 13.63 12.40 1.21 26.00

Senior Sub +Sub 41 29.21 21.86 18.00 28.30 2.00 98.25

All 119 39.65 32.65 32.65 26.21 1.21 100.50


30

Figure 27. Recovery Rates by Industry and Seniority (1971–2011) (Continued)

Industry Seniority

No. of

Issues

Mean Price

($)

Weighted

Price ($)

Median

Price ($) STD

Minimum Price

($)

Maximum

Price ($)

Retailing Senior Secured 30 48.22 43.32 43.50 26.66 2.50 99.75


Senior Sub 74 31.89 28.83 25.25 22.68 0.50 94.00

Subordinated 36 27.27 25.44 20.00 18.96 3.38 70.00

Discount 3 35.85 35.51 20.00 33.26 13.48 74.06

Senior Sub +Sub 110 30.38 28.11 23.00 21.55 0.50 94.00

All 305 39.89 37.41 40.00 22.86 0.23 99.75

Communications Senior Secured 66 37.51 36.72 31.17 30.87 1.00 99.00

& Media Senior Unsecured 301 30.49 26.17 24.00 22.69 1.00 95.75

Senior Sub 50 37.59 33.10 32.50 25.72 0.13 97.00

Subordinated 17 32.00 37.86 20.00 25.84 6.50 89.00

Discount 101 28.82 26.59 20.00 23.55 0.42 102.50

Senior Sub +Sub 67 36.17 33.49 29.50 25.67 0.13 97.00

All 535 31.75 28.11 24.00 24.49 0.13 102.50

Transport Senior Secured 122 50.42 60.66 44.50 26.47 2.00 106.13

(Non-Auto) Senior Unsecured 86 29.26 30.35 23.53 20.78 6.00 101.50

Senior Sub 6 41.71 25.24 36.75 25.99 13.00 83.75

Subordinated 8 29.89 20.50 26.06 21.63 10.00 65.50

Senior Sub +Sub 14 34.96 22.14 33.63 23.42 10.00 83.75

All 222 41.25 45.35 33.00 26.21 2.00 106.13

Utilities Senior Secured 34 59.14 51.17 58.44 25.60 2.00 99.88


Senior Sub 2 43.88 52.92 43.88 36.95 17.75 70.00

Subordinated 3 37.67 28.71 44.00 10.97 25.00 44.00

Discount 1 68.00 68.00 68.00 68.00

Senior Sub +Sub 5 40.15 41.09 44.00 20.32 17.75 70.00

All 90 64.23 60.07 72.25 23.20 2.00 99.88


Mortality Rates and Losses

A method we developed in 19897, and updated annually since, to assess the

probability of default of newly issued corporate bonds and also to forecast default

rates (see below) is the mortality rate approach. This default measurement includes

the impact of bond aging by adjusting the base population over time for such

disappearances as defaults and calls and other noncredit-related events. Results are

calculated based on the rating at birth and the volume of issuance. Similar statistics

for cumulative default rates can be found from rating agency compilations, only the

base is usually the number of issuers. These agency-calculated cumulative default

rates are based on the number of issuers in a certain rating category at the beginning

of some year, regardless of the rating received when they were issued and then

tracked from one to ‘N’ years thereafter. Hence, they are not affected by aging, and

the statistics are more appropriate for seasoned portfolios, in our opinion.

7 E. Altman (1989), “Measuring Corporate Bond Mortality and Performance”, Journal of Finance, September.


31

Figure 28. Mortality Rates by Original Rating — All Rated Corporate Bondsa (1971–2011)

Years After Issuance

1 2 3 4 5 6 7 8 9 10

AAA Marginal 0.00% 0.00% 0.00% 0.00% 0.02% 0.02% 0.01% 0.00% 0.00% 0.00%

Cumulative 0.00% 0.00% 0.00% 0.00% 0.02% 0.04% 0.05% 0.05% 0.05% 0.05%

AA Marginal 0.00% 0.00% 0.25% 0.11% 0.02% 0.02% 0.01% 0.01% 0.03% 0.01%

Cumulative 0.00% 0.00% 0.25% 0.36% 0.38% 0.40% 0.41% 0.42% 0.45% 0.46%

A Marginal 0.01% 0.06% 0.16% 0.17% 0.14% 0.10% 0.04% 0.30% 0.11% 0.07%

Cumulative 0.01% 0.07% 0.23% 0.40% 0.54% 0.64% 0.68% 0.98% 1.09% 1.15%

BBB Marginal 0.38% 2.49% 1.37% 1.05% 0.58% 0.27% 0.30% 0.17% 0.16% 0.36%

Cumulative 0.38% 2.86% 4.19% 5.20% 5.75% 6.00% 6.28% 6.44% 6.59% 6.93%

BB Marginal 1.01% 2.07% 3.95% 2.00% 2.42% 1.47% 1.51% 1.10% 1.50% 3.20%

Cumulative 1.01% 3.06% 6.89% 8.75% 10.96% 12.27% 13.59% 14.54% 15.82% 18.52%

B Marginal 2.96% 7.86% 7.95% 7.93% 5.84% 4.58% 3.66% 2.15% 1.83% 0.82%

Cumulative 2.96% 10.59% 17.70% 24.22% 28.65% 31.92% 34.41% 35.82% 36.99% 37.51%

CCC Marginal 8.30% 12.65% 18.28% 16.35% 4.82% 11.78% 5.45% 4.95% 0.70% 4.41%

Cumulative 8.30% 19.90% 34.54% 45.24% 47.88% 54.02% 56.53% 58.68% 58.97% 60.78%

a Rated by S&P at issuance based on 2,644 issues.

Sources: S&P and NYU Salomon Center.

Figure 29. Mortality Losses by Original Rating — All Rated Corporate Bondsa (1971–2011)

Years After Issuance

1 2 3 4 5 6 7 8 9 10

AAA Marginal 0.00% 0.00% 0.00% 0.00% 0.01% 0.01% 0.01% 0.00% 0.00% 0.00%

Cumulative 0.00% 0.00% 0.00% 0.00% 0.01% 0.02% 0.03% 0.03% 0.03% 0.03%

AA Marginal 0.00% 0.00% 0.04% 0.04% 0.01% 0.01% 0.00% 0.01% 0.01% 0.01%

Cumulative 0.00% 0.00% 0.04% 0.08% 0.09% 0.10% 0.10% 0.11% 0.12% 0.13%

A Marginal 0.00% 0.02% 0.07% 0.13% 0.08% 0.05% 0.03% 0.04% 0.07% 0.03%

Cumulative 0.00% 0.02% 0.09% 0.22% 0.30% 0.35% 0.38% 0.42% 0.49% 0.52%

BBB Marginal 0.28% 1.61% 1.17% 0.43% 0.37% 0.18% 0.12% 0.10% 0.10% 0.21%

Cumulative 0.28% 1.89% 3.03% 3.45% 3.81% 3.98% 4.10% 4.19% 4.29% 4.49%

BB Marginal 0.58% 1.21% 2.34% 1.17% 1.44% 0.76% 0.83% 0.48% 0.79% 1.14%

Cumulative 0.58% 1.78% 4.08% 5.20% 6.57% 7.28% 8.05% 8.49% 9.21% 10.25%

B Marginal 1.98% 5.50% 5.39% 5.29% 3.90% 2.52% 2.38% 1.20% 0.94% 0.57%

Cumulative 1.98% 7.37% 12.36% 17.00% 20.24% 22.25% 24.10% 25.01% 25.71% 26.14%

CCC Marginal 5.48% 9.02% 12.88% 11.97% 3.40% 8.90% 4.09% 3.84% 0.45% 2.83%

Cumulative 5.48% 14.01% 25.08% 34.05% 36.29% 41.96% 44.34% 46.47% 46.71% 48.22%

a Rated by S&P at issuance based on 2,183 issues.

Sources: S&P and NYU Salomon Center Default Database.

Updated mortality statistics are reported in Figures 28 and 29. Since the 2011 default

rate was slightly lower than the historical average, although similar to 2010, the

updated mortality rate statistics tend to be similar to one year earlier. For example, the

one- and five-year B-rated category had cumulative mortality rates of 2.96% and

28.65% in 2011 compared to 2.97% and 28.71% in 2010. We utilize our mortality rate

statistics in one of our default forecasts at the end of this report. These statistics can be

used to assess the expected loss from defaults of corporate bonds, regardless of the

original rating (investment or non-investment grade).

Mortality losses in Figure 29 indicate a parallel story to the mortality rate statistics.

Most losses are only slightly higher than at the end of 2010, due to the marginal

increase in defaults.


32

Returns and Spreads

Figure 30 shows the return on high-yield bonds for 2011 was 5.52. The excess return

(loss) versus 10-yr US Treasury bonds was -11.47%, far lower than that of 2010, when

the excess return was 6.22%, and the first year-end in which the returns on US

Treasury bonds has exceeded that of high-yield bonds since 2008. The average (1978-

2011) excess return spread decreased to 2.35% (1.94% compound average) from one

year earlier when it was 2.77% (2.34% compounded).

The spread between the yield-to-maturity on high-yield bonds versus 10-yr

Treasuries decreased by 90bp from 744bp at the end of the third quarter to a year-end

total of 654bp. This level, however, is 196bp higher than the spread one year earlier

(458bp). Figure 31 shows the spread trend from its all-time low of 260bp in June

2007, to the peak spread of 2,046bp in December 2008, its steady decline through the

first-quarter 2011, then an ascent starting in May of that year as treasury yields

slowly dropped to historical lows in our time series (1.88%), and the threat of one or

more European sovereign defaults escalated. We also show the option-adjusted yield

spread in Figure 31 (723bp at year-end 2011).

Figure 30. Annual Returns, Yields, and Spreads on 10-Yr Treasury and

High-Yield Bonds,a 1978–2011

Return (%) Yield to Maturity (%)

Year

High

Yield Treasury

Excess

Returns

High

Yield Treasury Spread

2011 5.52 16.99 (11.47) 8.41 1.88 6.54

2010 14.32 8.10 6.22 7.87 3.29 4.58

2009 55.19 (9.92) 65.11 8.97 3.84 5.13

2008 (25.91) 20.30 (46.21) 19.53 2.22 17.31

2007 1.83 9.77 (7.95) 9.69 4.03 5.66

2006 11.85 1.37 10.47 7.82 4.70 3.11

2005 2.08 2.04 0.04 8.44 4.39 4.05

2004 10.79 4.87 5.92 7.35 4.21 3.14

2003 30.62 1.25 29.37 8.00 4.26 3.74

2002 (1.53) 14.66 (16.19) 12.38 3.82 8.56

2001 5.44 4.01 1.43 12.31 5.04 7.27

2000 (5.68) 14.45 (20.13) 14.56 5.12 9.44

1999 1.73 (8.41) 10.14 11.41 6.44 4.97

1998 4.04 12.77 (8.73) 10.04 4.65 5.39

1997 14.27 11.16 3.11 9.20 5.75 3.45

1996 11.24 0.04 11.20 9.58 6.42 3.16

1995 22.40 23.58 (1.18) 9.76 5.58 4.18

1994 (2.55) (8.29) 5.74 11.50 7.83 3.67

1993 18.33 12.08 6.25 9.08 5.80 3.28

1992 18.29 6.50 11.79 10.44 6.69 3.75

1991 43.23 17.18 26.05 12.56 6.70 5.86

1990 (8.46) 6.88 (15.34) 18.57 8.07 10.50

1989 1.98 16.72 (14.74) 15.17 7.93 7.24

1988 15.25 6.34 8.91 13.70 9.15 4.55

1987 4.57 (2.67) 7.24 13.89 8.83 5.06

1986 16.50 24.08 (7.58) 12.67 7.21 5.46

1985 26.08 31.54 (5.46) 13.50 8.99 4.51

1984 8.50 14.82 (6.32) 14.97 11.87 3.10

1983 21.80 2.23 19.57 15.74 10.70 5.04

1982 32.45 42.08 (9.63) 17.84 13.86 3.98

1981 7.56 0.48 7.08 15.97 12.08 3.89

1980 (1.00) (2.96) 1.96 13.46 10.23 3.23

1979 3.69 (0.86) 4.55 12.07 9.13 2.94

1978 7.57 (1.11) 8.68 10.92 8.11 2.81

Arithmetic Annual Average

1978–2011 10.94 8.59 2.35 11.98 6.73 5.25

Standard Deviation

15.13 11.47 17.96 3.25 2.89 2.84

Compound Annual Average

1978–2011 9.96 8.02 1.94

a Year-end yields.

Sources: Citi Yield book and author’s compilations.


33

It is interesting to note, and quite instructive in our opinion, that if one observes the

historic average “promised” yield-spread of 5.25% (bottom-right in Figure 30) and

subtracts the weighted-average loss rate from defaults of 2.68% (bottom-right of

Figure 15), the result is an expected return of 2.57% per year above the risk-free rate

– similar to the actual average return spread of 2.35% per year (Figure 30, fourth

column).

Figure 31. YTM and Option-Adjusted Spreads Between High-Yield Bonds

and U.S. Treasury Notes, 1 Jun 07–31 Dec 11

200

700

1,200

1,700

2,200

2,700

6/1

/2007

7/2

7/2

007

9/2

1/2

007

11/1

6/2

007

1/1

5/2

008

3/1

1/2

008

5/6

/2008

7/1

/2008

8/2

6/2

008

10/2

1/2

008

12/1

6/2

008

2/1

2/2

009

4/9

/2009

6/4

/2009

7/3

0/2

009

9/2

4/2

009

11/1

9/2

009

1/1

8/2

010

3/1

5/2

010

5/1

0/2

010

7/5

/2010

8/3

0/2

010

10/2

5/2

010

12/2

0/2

010

2/1

4/2

011

4/1

1/2

011

6/6

/2011

8/1

/2011

9/2

6/2

011

11/2

1/2

011

Yield Spread (YTMS) OAS Average YTMS Average OAS(1981 – 2011) (1981 – 2011)

YTMS = 547bp, OAS = 550bp

12/30/11 (YTMS = 654bp, OAS = 723bp)

6/12/07 (YTMS = 260bp, OAS = 249bp)

12/16/08 (YTMS = 2,046bp, OAS = 2,144bp)

Source: Citigroup Yield book Index Data

A Continuing Investment Dilemma

Normally, in a credit environment of extremely low default risk, both in terms of

recent statistics and near-term future estimates, yield spreads should be below

average and the outlook for risky debt markets fairly bullish. The yield spread at the

end of 2011 (Figure 31), however, is above average at 654bp (vs. 525bp average),

reflecting great uncertainty about the future. These risks include (Figure 32) concerns

about the sluggish growth in the U.S. economy, European sovereign and banking

default risk, interest rate increases, the refinancing needs of the federal and municipal

government sectors in the U.S., and the deteriorating credit quality of new-issue

bond and loan financings, especially high-yield and leveraged loans .

Our concerns about the near-term outlook on high-yield bond returns, written about

in several of our recent quarterly reports, were justified in a sense, with the lack-

luster absolute performance of non-investment grade bonds in 2011 (although a total

return of about 5% compared to most asset classes, except Treasuries, was quite

decent last year). The higher yields now available across the board actually may

provide some attractive alternatives going forward (see our discussion on the

“Distress Ratio” at a later point).


34

Figure 32. Major Risks Going Forward (For 2012)

Real Economy – Primarily U.S.: Impact on Default Rates, Credit

Availability & Credit Quality

Sovereign Debt Crisis-Europe

o Looming Corporate Defaults

Contagion Between Markets – Debt and Equity

Debt Limit Impasse in the U.S.

Lowering of Credit Quality of Newly Issued High-Yield Bonds

U.S. Municipal Bond Default Risk

Uncertainties (non-quantifiable)

Source: E. Altman, NYU Salomon Center.

The stock market still looks undervalued, with P/E ratios relatively low, excellent

growth in many corporate profits, albeit mainly from cost-cutting, and interest rates

still at extremely low levels. With all of the above in mind, one could be fairly

bullish about the stock market’s prospects, yet bearish, or at least not very optimistic

about risky bond markets, especially high-yield. Considering investment choices

between various capital markets, it is instructive to observe historical correlations

with particular scrutiny of the most recent past.

Figure 33 shows the correlation between the S&P 500 stock index monthly returns

vs. both high-yield and defaulted debt indexes. The latter are based on our Altman

NYU-Salomon Center Defaulted Bond and the Combined Defaulted Bond and Bank

Loan Indexes. The periods covered are the last three stressed credit cycles:

1990/1991, 2001/2002, and the most recent 2008/2009 (through March). We also

observe the correlations for the recovery period since April 2009, and other past

recoveries (not shown here), as well as the entire sample period 1987-2011. The

results are quite revealing.

Typically during stressed credit cycles (and also the subsequent recovery),

correlations between the stock market and risky debt markets are quite low - - 12%

in 1990/1991, 23% in 2001/2002, and, not shown, -16% and 43% in their subsequent

recoveries. Over the entire sample period since we have been tracking defaulted debt

as an asset class (1987–present), the correlation between the S&P 500 and defaulted

bond returns is only 41%, and a moderate 59% for the high-yield market and stock

market returns. However, in the most recent economic and financial collapse of

2008–early 2009, the latter’s correlation spiked enormously to 73%. In the most

recent cycle (January 2010 – December 2011), the correlation between defaulted

bonds and bank loans and the S&P 500 Stock Index was 60% and 80% between the

S&P 500 and Citi’s High-Yield Bond Index! On any given day, it is likely that if

there is bad news about financial or default related uncertainties, both risky bond and

stock markets decline, with a flight to quality, and the opposite is true if the news is

positive.


35

Our dilemma, much as it has been for the past year, is that if we are to be concerned

about risky debt in the near future, how can we be bullish about the stock market? A

more positive spin on the correlation pattern is that the optimistic stock market

outlook will dominate bond market uncertainties and both will prosper in the near-

term future. Of course, bond market prospects might brighten in the short term, with

a credible European containment plan, an observation we have been making for

some time now. Additionally, yield spreads in the high-yield bond market are quite

attractive relative to historical levels.

Figure 33. Total Monthly Return Correlations on Various Asset Class

Indexes During Stressed and Recovery Credit Cycles

Citi HY Index S&P 500 Stock

Index

Stressed Cycle Ia

01/1990 – 12/1991

(24 obs.)

Defaulted Bond Index 68% 12%

S&P 500 Stock Index 48%

Stressed Cycle IIb

01/2001 – 12/2002

(24 obs.)



Stressed Cycle III

01/2008 – 03/2009

(15 obs.)



Recovery Cycle

04/2009 – 04/2011

(25 obs.)



Full Sample Period

01/1987 – 12/2011

(300 obs.)



Most Recent Period

01/2010 – 12/2011 (24 obs.)



a Correlation between Defaulted Bond Index and S&P 500 during recovery cycle was -16%.

b Correlation between Defaulted Bond and Bank Loan Index and S&P 500 during recovery

cycle was 43%, and the Defaulted Bond Index and the S&P was 49%.

Source: E. Altman, NYU Salomon Center.


36

European Sovereign Debt Crisis

For some time now, we have emphasized that the European sovereign debt crisis was

looming as the most critical area for credit markets, with likely implications for

global real economic growth. There is no doubt about this now and the European

authorities have finally, and quite reluctantly, confronted the possibility of a Greek

“default” and have enhanced the safeguards against a further contagion to other

minor, and even major, Euro economies. The proclamations in the week of July 18,

2011 that private sector banks and other lenders would share in the burden of

“propping-up” Greece by “accepting” a haircut on their Greek government

investments of approximately 21% were greeted quite positively by the markets, and

spreads and interest rates, as well as the CDS market, rallied but only temporarily, as

that “haircut” was easily perceived as insufficient. The same was true later, as private

investors were instructed to “voluntarily” write-down their bond investments in

Greece by 50%.

The new Greek debt restructuring, expected to be completed shortly, will possibly

trigger a “Selective Default” from S&P and Moody’s, but it has already triggered a

“Restricted Default” (Fitch), and has resulted in a downgrade to one notch above

default (Ca) (Moody’s); these labels will last for only a very short period. The

“default event committee,” comprised of 10 banking institutions and five asset

managers, of I.S.D.A. will probably not treat this “consensual” arrangement as a

CDS default event, with their argument being that only if a debt swap is binding to

all debt holders (both consensual and non-consensual), will a distressed exchange be

considered a default. If the Greek deal is “consensual” it will likely not trigger a

default. There is some concern that some private investors will not agree to the

haircut and lower interest rates, triggering a default even from I.S.D.A. There is little

chance, however, that Greek sovereign debt issued in the past will ever see close to

par value, at least for selected private investors.

We emphasize several cautions with getting too euphoric about the arrangements for

the avoidance of this first “developed” country default, in a very long time because

the market’s perception of default likelihood amongst the PIIGS countries is still

considerable. Figure 34 shows the five-year implied probability of default (PD)

derived from CDS market spreads from January 2009 through December 30, 2011

(September 16th for Greece) amongst the “big-five” vulnerable countries. Notice the

hierarchy of PDs for all countries going from the 10-20% range in early 2009 to as

high as 98.51% for Greece on September 14th, to Portugal and Ireland’s (64%), with

Italy as high as 38.9% and Spain’s pinnacle reaching 33.3%8. So, will the contagion

spread to countries outside of Greece and what are the implications of the crisis to

other than the Euro-Sovereign markets?

We still feel that there is a considerable chance that the crisis will continue to spread

to other than Greece, the only country stated to be covered directly by the latest

round of rescue policies. Additionally, what is also clear is that the recent near

collapse of the Italian bond market in value helped to move Euro officials to act

decisively. Indeed, as we have written, the ultimate battle to preserve the Euro may

8 As of January 18, 2012, after the downgrade by S&P of sovereign debt issued by Portugal, Italy and Spain, the implied PDs were

Portugal 65.1%, Ireland 43.2%, Italy 34.3%, and Spain 28.6%.


37

very well take place on the picturesque shores of Italy (“Final Battle for the Euro

Will be Fought on Italy’s Shores”, Financial Times, June 21, 2011). We believe,

however, that the results favor Italy because of its fundamental strengths compared

to the other four PIIGS countries and the change in the political situation. However,

the result is far from certain. Spreads could continue to be quite volatile and interest

rates remain very high. Much will depend on internal politics in many of the key

European countries and their ability to convincingly show evidence of positive

growth in the not-too-distant future.

Figure 34. Five-Year Implied Probabilities of Default (PD)a from

Capital Market CDS Spreads, Jan 2009 - Dec 30, 2011

0

10

20

30

40

50

60

70

80

90

100

4-Ja

n-09

4-M

ar-0

9

4-M

ay-0

9

4-Ju

l-09

4-Se

p-09

4-N

ov-0

9

4-Ja

n-10

4-M

ar-1

0

4-M

ay-1

0

4-Ju

l-10

4-Se

p-10

4-N

ov-1

0

4-Ja

n-11

4-M

ar-1

1

4-M

ay-1

1

4-Ju

l-11

4-Se

p-11

4-N

ov-1

1

Def

ault

Prob

abili

ty (A

s %

)

Spain Italy Greece Portugal Ireland

Greece (9/16)

94.75

Portugal

59.77

Ireland

45.40

Spain

27.96

Italy

34.25

a

Assumes 40% Recovery Rate. PD computed as 1-e(-5*s/(1-R))

Sources: Bloomberg and NYU Salomon Center.

The other risks, itemized in Figure 32, are related to the U.S. economy, including the

nation’s sluggish growth in 2011, contagion between equity and risky debt markets

(Figure 33), lowering of credit quality of newly issued High-Yield bonds (see Figure

36, below), U.S. Municipal Bond Market risks, and the stalemate in Congress on the

debt-limit issue.

All things considered, there are many factors which cause spreads to be higher than

near-term defaults and the next one year’s consensus forecasted default rates (see

below) would normally imply. Spreads will move in either direction going forward

based on whether these risks manifest into realities and/or just increase, or become

lessened, through aggressive and/or enlightened Government intervention.


38

New Issues and Other Changes in the High-Yield

Market

New high-yield bond issuance in 2011 increased slightly to a record $221.99

billion — compared to the previous record set only last year of $218.8 billion.

New issuance of leveraged loans (secured, non-investment grade loans)

increased 160% in 2011, with S&P estimating that about $374 billion of new,

US leveraged loans were issued during the year, up from $233 billion in 2010.

Though both the bond and loan markets had significant amounts of new issuance

through 2011, the loan market appeared to be the primary vehicle used by high-yield,

risky debt issuers. Banks seem intent on catching up to bond markets, especially

in the refinancing of near-term maturing leveraged loans.

The size of the high-yield bond market, adjusting for fallen angels, rising stars,

defaults, and other changes, was approximately $1.32 trillion at the end of 2011, up

from $1.28 trillion at the end of 2010 (see Figure 35), but slightly less than the mid-

2011 year level ($1.35 trillion). The increase of almost $46 billion over last year is

largely attributable to the dollar amount of newly issued debt exceeding defaults and

other exits from the market. In three of the four quarters of 2011, upgrades exceeded

downgrades, indicating a perceived improvement in credit fundamentals over the

course of the year.

Figure 35. Market Changes in 2011 and Size of the High-Yield Bond

Market (Dollars in Billions)

Size of Market (as of December 2010) $1,277.8

New Issues $221.9

Fallen Angels $23.1 a

Rising Stars $(31.8) b

Defaults $(17.8)

Calls $(67.7)

Repurchases/Tenders $(64.0)

Maturities $(35.1)

Exchanges $17.0

Size of Market (as of December, 2011) $1,323.4

a First downgrade to noninvestment grade from either Moody’s or S&P.

b Must be investment

grade with both Moody’s and S&P.

Sources: Citigroup, Credit Suisse, and NYU Salomon Center.

The Leveraging of Corporate America

Over the past 36 months, we have witnessed an enormous amount of new issuance in

both the investment grade and high-yield bond markets as well as the awakening of

the leveraged loan market. Indeed, new issuance of high-yield bonds in both 2010

and 2011 broke the previous records. These developments are all the more

astounding given the fact that the default rate in 2009 was the second highest ever

(see Figure 1) and we just recently went through the most challenging credit cycle

since the great depression. What accounts for this impressive recovery in issuer

appetite for leverage and also investor optimism in absorbing this huge new

issuance?

9 According to Credit Suisse data.


39

We can identify at least four reasons to explain the substantial leveraging of

corporate America (or releveraging as some analysts point out that the U.S. economy

leveraged up dramatically prior to the credit meltdown in 2007 - 2008). These four

include:

1. Unprecedented low interest rates for issuers yet still relatively high

promised yields for investors,

2. Refinancing needs of existing high-yield bonds and leveraged loans,

3. Attempts to sustain and enhance return-on-equity gains in recent

quarters, and

4. Maintaining a cash hoard to participate in M&A activity.

These factors, combined with attractive relative yields from high-yield issuers,

continue to propel this market from both supply and demand forces.

Interest Rates

With the FED available to provide enormous liquidity and with investor appetite for

risky debt and higher yielding assets substantial, interest rates have remained low.

Figure 30 earlier showed that the yield on 10-year U.S. Treasuries fell from 3.84% at

the end of 2009 to 3.29% by year-end 2010, and even further to 1.88% as of the end

of December 2011, an all-time low in our time series going back to 1978. The daily

yields during 2011 generally remained within this range, though falling as low as

1.71% on September 22nd

. Additionally, the high-yield bond yield-to-maturity level

(8.41%) is close to 3.6% below historical averages. So, despite record demand for

high-yield bonds, interest rates are absolutely and relatively low.

Average yields have dropped despite the increasing risk profile of high-yield bonds.

Figure 36 shows the proportion of new issues rated B- or lower by S&P for 2011,

and annually for 1993–2010. As can be seen, the percentage of new high-yield

issuance with ratings B- or lower has moved up from 14.16% in 2008 to 31.56% as

of year-end 2011 (note, however, that this percentage for all of 2011 is actually lower

than it was at the end of the third quarter, when it was 35.71% -- so the relative new

issuance of this low-quality debt diminished in the fourth quarter). This is larger than

the proportion of 26.73% for all of last year, and above the average of 29.02% for the

last five years. The current percentage is now above both the historical average and

median year-end levels, and similar to what it was in 2005/2006. These statistics

bode for increasing default rates in 2013-2015 based on historical mortality statistics.


40

Figure 36. Percentage of New High-Yield Issues Rated B- or Below,

1993–2011 (Based on the Amount of Issuance)

18.16%

23.35%

19.40%

21.48%

27.27%

40.75%

30.41%

32.97%

13.73%

14.02%

29.55%

39.06%

33.00%

33.57%

51.25%

14.16%

21.38%

26.73%

31.56%

0.00%

10.00%

20.00%

30.00%

40.00%

50.00%

60.00%

1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Source: Standard & Poor’s Global Fixed Income Research.

Proportion and Size of the Distressed and Defaulted Public and Private Debt

Markets

The distressed and defaulted debt proportion of the high-yield plus defaulted debt

markets in the United States was roughly 31.0 % as of December 31, 2011, up

considerably from 23.1% one year earlier (Figure 37). A steady decrease had

occurred in this metric from December 31, 2008 through the first-quarter 2011 due to

a drop in the distress ratio of issues trading at least 1,000bp over comparable

duration US Treasury bonds. However, this ratio rose from 4.2% at the end of the

first-quarter 2011, to 18.9% during the third quarter, to finally settle at 15.02% by

year-end. This 15.0% level is based on the combined high-yield and defaulted bond

population. The distress ratio for just the high-yield market was 17.9%, a decrease

from September 30, 2011 when it was 22.3%, its highest level since September

2009.10

This level is based on number of issues, with comparable levels based on

issuers and dollar amount11

.

10 A study by J. Gonzalez-Heres, P. Chen and S. Shin, “Revisiting the Altman Definition of Distressed Debt and a New Mechanism

for Measuring the Liquidity Premium of the High Yield Market”, Journal of Fixed Income, Fall 2010, shows that about 50% of all

distress rated firms default within about four years. The paper also discusses and analyzes the importance of market liquidity in

explaining the volatility in the distressed ratio.

11 Source: Bank of America Merrill Lynch. The distress ratio used prior to 3Q 2011 had included all USD-denominated debt, without

regard to where issuance took place. From that report forward, the ratio calculation only includes USD-denominated debt issued by

companies domiciled in the U.S. See also our later discussion on the distress ratio.


41

Figure 37. Distresseda and Defaulted Debt, as a Percentage of Total

High Yield Plus Defaulted Debt Market,b 1990–2011c

14%

26%

15%

7% 2% 5% 7%13%

19% 18%14% 14% 13% 10%

18% 19% 17% 16%

28%

17%

8%

6%

3%

9%

31% 22%

21%

5%

3% 4%1% 9%

67%

12%

6%15%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%Defaulted Distressed

a

Defined as yield-to-maturity spread greater than or equal to 1,000bp over comparable

Treasuries. b

$1.575 trillion as of December 31, 2011. c

Some years not available as no

survey results are available.

Source: NYU Salomon Center, Merrill Lynch (Bank of America).

The defaulted bond amount total is derived by adding the new defaults of 2011

($17.81 billion) to the existing defaulted bonds as of year-end 2010, subtracting

those bonds of firms whose reorganization plans were deemed effective and have

emerged from Chapter 11 ($19.9 billion —Appendix G) and, finally, by deducting

the value of bonds which defaulted as part of a completed distressed exchange (DE)

during the year ($1.7 billion). The latter, while part of our defaulted total, do not

trade after the exchange, or trade as non-defaulted debt. In 2011, the defaulted bond

proportion decreased slightly to 16.0% as the amount of emergences exceeded that of

new, non-DE defaults.

Figure 38 shows our estimate of the size of the defaulted and distressed debt markets

for both public and privately issued debt. At $251.5 billion as of year-end 2011, the

face value amount of public defaulted bonds was $3.8 billion less than at year-end

2010 ($255.3).

The distressed amount of the total high-yield bond market increased substantially in

2011 to $236.6 billion, up from $97.3 billion one year earlier. As previously

discussed, this is attributable to the increase in the distress ratio.


42

Figure 38. Estimated Face and Market Values of Defaulted and

Distressed Debt, 2009–2011 (Dollars in Billions)

Face Value ($) Market Value ($)

31 Dec 09 31 Dec 10 31 Dec 10 31 Dec 09 31 Dec 10 31 Dec 10 Market/

Face Ratiod

Public Debt

Defaulted 279.61 255.27 251.48 a

97.87 102.11 88.02 0.35

Distressed 180.99 97.32 236.61 b

135.74 68.12 165.63 0.70

Total Public 460.60 352.59 488.10 233.61 170.23 253.65

Private Debt

Defaulted 699.04 510.54 502.97 c

419.42 280.79 251.48 0.50

Distressed 452.48 194.64 473.22 c

361.98 145.98 331.26 0.70

Total Private 1,151.51 705.17 976.19 781.40 426.77 582.74

Total Public

and Private

1,612.12 1,057.76 1,464.29 1,015.01 597.00 836.39

a Calculated using: (2010 defaulted population) + (2011 defaults) - (2011 Emergences) –

(2011 Distressed Restructurings). b

Based on 17.88% of the size of the high-yield market

($1.323 trillion). c

Based on a private/public ratio of 2.0. d

The market/face value

ratio was 0.40 for public defaulted debt, 0.70 for public distressed debt, 0.55 for

private defaulted debt and 0.75 for private distressed debt in 2010.

Source: NYU Salomon Center and estimates by Professor Edward I. Altman.

Our private debt estimate is based on a 2.0:1 ratio of private-to-public debt among

troubled companies. Applying this ratio to our public debt totals, we estimate that the

face value of private defaulted and distressed debt is $976.2 billion. The total face

value of public and private, defaulted and distressed debt as of December 31, 2011,

is an estimated $1.46 trillion (Figure 38). This is a substantial increase of about $406

billion from one year earlier, again primarily due to the increase in the distress ratio.

As indicated in Figure 38, consistent with our observations of prices of both newly

defaulted and existing defaulted bond and loan issues in our Altman-Kuehne

Defaulted Debt Indexes, we have chosen to slightly decrease our market-to-face

value ratios from year-end 2010, with only the ratio for distressed public debt

unchanged. When applied, the market value estimate of defaulted and distressed debt

is about $836 billion — down from the third quarter but up considerably from one

year earlier (Figure 39)


43

Figure 39. Size of the Defaulted and Distressed Debt Market, 1990–

2011 (Dollars in Billions)

$-

$500

$1,000

$1,500

$2,000

$2,500

$3,000

$3,500

$4,000 Face Value Market Value

Source: Professor Edward I. Altman estimates, NYU Salomon Center.


44

Forecasting Default Rates and Recoveries

Forecasting aggregate default and recovery rates is a tricky exercise that can be based

on a “bottom-up” approach on individual issues and issuers or a macro, “top-down”

approach – or both. For practical and track-record reasons, we have chosen the top-

down approach using several techniques (models) which include aggregate amounts

of new issuance over the last decade stratified by the major ratings categories

(mortality statistics) and point-in-time proportions of issues by the major non-

investment grade, high-yield bond categories. The latter technique is specific to only

recessionary results (scenario analysis). Finally, we also analyze the information

content of market-based measures, such as yield spreads and distress ratios, to

forecast the near-term default performance of the market. These four techniques, or

three in the case of non-recessionary expectations, are then averaged to arrive at our

single default rate estimate, although the range of possible outcomes can be observed

as well. Our default rate estimates are then used as inputs to form the basis for

estimates of aggregate recovery rates on corporate high-yield bond defaults.

2011 Mortality Rate-Based Forecast

Using our standard mortality rate forecasting method for 2008, our forecast of 4.64%

for the high-yield bond default rate was remarkably close to the actual 2008 rate,

which came in at 4.65% (Figure 40). We then had expected the next year’s 2009

default rate forecast would be on the low side, using the same mortality rate

methodology. After all, the mortality rate incidences of the past had been based on

six recession periods (see Figure 4) covering only about six-and-a-half years of the

38 in our sample period (1971–2008). Therefore, a nonrecessionary, macroeconomic

climate dominates our statistics. With a severe recession in place coming into 2009,

we expected the mortality rate methodology to underestimate the actual default

results. Indeed, the actual default rate was 10.74% in 2009 compared to our forecast

of 7.98%, a respectable under-estimate. Since the mortality method is an actuarial

smoothing technique, we know that it will not be sensitive to extreme yearly,

abnormal conditions. In 2010, our estimate was considerably higher than the actual

default rate as the high-yield bond market was buoyed by exceptional levels of

government inspired liquidity. For these reasons, we also, when appropriate, consider

recession scenario analyses and market-based statistics to provide useful estimates of

future results

Utilizing the updated mortality rate statistics in Figure 28 and inputting new issuance

statistics per rating class over the past ten years, we estimate that the 2012 default

rate will be 4.10%, with a recovery rate of about 37.1% (Figure 40). Our forecast

also utilizes an estimate of the expected size of the high-yield bond market for 2012.


45

Figure 40. Mortality Rate-Based Forecasts of Default and Recovery

Rates in the High-Yield Bond Market, 2008–2012

Year Default Rate

Default Amount

($ Billions) Recovery Rate

2008 (Forecast) 4.64% $53.1 39.6% a

2008 (Actual) 4.65% $50.2 42.5%

2009 (Forecast) 7.98% $92.0 30.0% a

2009 (Actual) 10.77% $124.1 36.1%

2010 (Forecast) 5.06% $62.5 34.9%

2010 (Actual) 1.13% $13.8 46.6%

2011 (Forecast) 3.90% $54.8 37.6%

2011 (Actual) 1.31% $17.8 60.3%

2012 (Forecast) 4.10% $54.3 37.1%

a Based on the log-linear and linear default/recovery rate regressions (See Figure 22).

Sources: Mortality Rates (Figure 28), and Authors’ Estimates of Market Size in 2012.

Market-Based Methods for Forecasting Defaults

In 2008, we introduced two alternative methods for forecasting default rates. The

first relies on the market’s spread on high-yield bonds compared to 10-yr US

Treasuries. The second utilizes the proportion of high-yield bonds selling at 1,000bp

over 10-yr US Treasuries (distress ratio). In both cases, we regress the market-based

measure in period (t) and the subsequent one-year default rate in period (t+1).

Based on the yield-spread regression on December 31, 2007, this method predicted a

4.62% 2008 default rate, essentially a perfect forecast. As of the end of 2008, it

predicted an astounding 20.81% default rate for 2009. With an update of the

regressions model to include 2009’s data, we recalculated our originally reported

estimated default rate for the 12 months ending December 2010 to be 3.61%. As of

December 31, 2010, inputting the year-end spread of 4.58% into our regression

model resulted in a one-year default forecast as of December 2011 of 3.10%. Both of

these forecasts were about 2% above the actual.

With this report, we have once again updated our regression model to now include

2010’s data. Inputting the year-end spread of 6.54% into our updated regression

model as of December 30, 2011 (Figure 41), results in a one-year default rate

forecast as of December 31, 2012 of 4.80%, higher than the mortality rate forecast.


46

Figure 41. Market-Based Annual Default Rate Forecast:

Default Rate(t+1)Versus Yield-Spreads(t), 1990-2010

Regression Equation:

Default Rate = - 1.32 + 0.94 * Spread

S = 2.1868 R-Sq = 61.1% R-Sq(adj) = 59.8%

0

2

4

6

8

10

12

14

16

0 5 10 15 20

Def

ault

Rate

(t+1

) %

Yield-Spread (t) %

Annual Default Rates (t+1) vs. Yield-Spreads (t) (1978-2010)

y = 0.9368x - 1.3232 R2 = 0.6109

Sources: Figures 1 and 30, NYU Salomon Center and authors’ compilation.

The Distress Ratio as a Forecasting Tool

Our second market-based method utilizes the distress ratio, a measure we developed

in 1990 to assess that segment of the high-yield bond market that is most likely to

default should either specific firms’ conditions worsen and/or the real economy

deteriorates and default rates, in general, increase. We zero in on the proportion of

the market selling at 1,000bp (10%) or higher than the risk-free benchmark – we

utilized, in 1990, the 10-year U.S. Treasury rate. The current market convention, and

the one we now utilize in our analysis and in our default rate forecasts, is the average

option-adjusted spread (OAS) between high-yield bond issues and the equivalent,

comparable duration U.S. Treasury bond. This spread differential, if greater than

1,000bp, qualifies the bond as a distressed security.

Figure 42 shows that the distress ratio spiked to 22.4% as of the end of the third-

quarter 2011, based on number of issues, and was 25.7% based on number of issuers

and 24.2% based on face-value dollar amounts (Bank of America Merrill Lynch

data)12

.

Figures 42 and 43 also show a time-series from 2000-2011 for the issue-based

distress ratio and the t+1 default rate – one year later (all year-end numbers). Note

that in most years when the distress ratio either increases or is at a high level, 20% or

above, the subsequent year’s default rate is likewise relatively high. The high default

rates following elevated distress ratios occurred in 2001, 2002, and 2009, and

somewhat less so in 2003. So, recent levels of 17-25% do bode for increasing default

rates next year. Of course, interest rates “today” are extremely low with the

12 The issue-based distress ratio actually peaked in early October at about 26% and fell through the remainder of the year, as spreads

tightened. Ratios are based on USD-denominated debt issued by U.S. domiciled companies only (see footnote 11).


47

comparable duration (slightly below five years) Treasury bond selling at a spread of

83bp as of the end of 2011.

Figure 42. Distress Ratio History, Year-End 2000–2011

0.00

10.00

20.00

30.00

40.00

50.00

60.00

70.00

80.00

90.00

Distress Ratio

Source: Bank of America Merrill Lynch.

Figure 43. Distress Ratio and Default Rate Comparison, 2000–2011

Date

Distress

Ratio(t)(%)

Annual Default

Rate(t+1)(%)

Default Rate(t+1)/

Distress Ratio(t)(%)

12/31/2000 37.33 9.80 26.26

12/31/2001 24.36 12.79 52.52

12/31/2002 31.21 4.66 14.93

12/31/2003 8.40 1.25 14.86

12/31/2004 4.96 3.37 68.05

12/31/2005 5.47 0.76 13.92

12/31/2006 1.62 0.51 31.44

12/31/2007 10.35 4.65 44.97

12/31/2008 81.29 10.74 13.22

12/31/2009 14.53 1.13 7.78

12/31/2010 7.19 1.31 18.28

12/31/2011 17.88 4.02 a n/a

Averages 20.61 4.64 22.49 b

Median

18.28 a

Estimate based on the (average default rate(t+1)/average distress ratio(t)). b

Average of

(average default rate(t+1)/average distress ratio(t)).

Sources: Bank of America Merrill Lynch & NYU Salomon Center, e.g. Figure 1.

So, if we simply observe the historical average distress ratio (20.61%) and the

historical average one-year-later default rate (4.64%), the proportion of distressed

issues that default in one year is, on average, 22.5%. Applying this default proportion

to the year-end 2011 distress ratio of 17.88% results in a forecasted default rate for

2012 of 4.02% -- see below our estimate using a distress ratio regression model. If

one would use the median one-year default relationship (18.28%), the forecast falls

to 3.27%.

We also can observe the distribution of yield spreads amongst high-yield bonds

(Figure 44) and, as expected, the proportion of bonds selling between 1,000bp and

1,500bp was quite high (10.35%), compared to those selling between 1,500bp and

2,000bp (3.95%), and above 2,000bp (3.67%). This is no doubt due to the recent


48

sharp increase in the number of bonds which were selling at below 1,000bp several

months ago, and are now slightly above the 1,000bp threshold. Their default

likelihood is lower than those which were already over 1,000bp and are now greater

than, say, 1,500bp over. Still, there were 139 issues (out of a total of 1,826 in the

Bank of America Merrill Index) trading above 1,500bp and the 72 issues selling at

2,000bp and over comprised about 22% of the distressed population.

Figure 44. Distribution of High-Yield Bond Issues by OAS over

Comparable Duration U.S. Treasury Bonds, December 31, 2011

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

30.00%

35.00%

40.00%

0

100

200

300

400

500

600

700

800

< 500 500-749 750-999 1000-1249 1250-1499 1500-1749 1750-1999 ≥ 2000

Pe

rce

nt

of

Tota

l

No

. of

Issu

es

Spread (bp)

No. of Issues Percent of Total

Sources: Bank of America Merrill Lynch. Data based on the population of distressed

credits including only U.S. domiciled companies.

Inserting the distress ratio of 17.88% as of December 30, 2011 into our regression

model (Figure 45) reveals an expected 3.93% default rate for year-end 2012, very

similar to using the historic average method (4.02%) discussed above.


49

Figure 45. Market-Based Annual Default Rate Forecast: Annual Default

Rate (t+1) vs. Annual Distressed Ratio (t), 1990-2010

Regression Equation:

Default Rate = 1.31 + 0.15 * Distress Ratio

S = 2.4115 R-Sq = 61.2% R-Sq(adj) = 59.1%

0

2

4

6

8

10

12

14

0 20 40 60 80

Defa

ult R

ate

(t+1

) %

Distress Ratio (t) %

Annual Default Rates (t+1) vs. Distress Ratios (t) (1990-2010)

y = 0.1469x + 1.3068 R2 = 0.6116

Sources: Bank of America Merrill Lynch & NYU Salomon Center, e.g. Figure 1.

Default and Recovery Conclusions

Considering the various forecasting methods, we observe that the forecast is in a

relatively narrow range between 3.93% (distress ratio) and 4.80% (yield-spread).

There is no obvious way to reach a consensus from the different techniques, so we

simply took the average of the three to obtain our forecast of 4.28% (Figure 46).

Inputting this estimate into our recovery regression (Figure 22), we estimate that

2012’s high-yield bond default recovery rate will be 36.7%, based on our log-linear

model.

If, and when, the U.S. economy does fall into a recession, default rates will, of

course, escalate. Note that we do not utilize a recession scenario technique since at

the time of this writing many economists estimated that the probability of a renewed

recession was at most 10-20%.


50

Figure 46. 2011 and One-Year Default and Recovery Forecasts: Summary

of Forecast Models

Model

2011

Default Rate

Forecast as

of 12/31/2010

2012

Default Rate

Forecast as of

12/31/2011

Mortality Rate 3.90% 4.10%

Recession Scenarios n/r n/r

Yield-Spread 3.10% a 4.80% c

Distressed Ratio 2.59% b 3.93% d

Average of Models

(Recovery Rates)e

3.20%

(39.8%)

4.28%

(36.7%)

a Based on 12/31/2010 yield-spread of 458.0bp.

b Based on 12/31/2010 Distressed Ratio of

7.62%. c Based on 12/31/2011 yield-spread of 653.8bp.

d Based on 12/31/2011 Distressed

Ratio of 17.88%. e Based on the log-linear regression (Figure 22).

Sources: All Corporate Bond Issuance, Figures 28, 41-45, and Authors’ Estimates of Market

Size in 2012.

Performance of Defaulted Debt Securities

In a subsequent report (to be published shortly), we will analyze the recent risk and

return performance of the distressed debt markets, especially for those investors who

concentrate on defaulted bonds and bank loans. Distressed markets can include those

debt securities that are trading at large discounts from par value but are still current

on their interest payments as well as those that have already defaulted but still trade.

In 2011, Defaulted bond and loan securities realized negative annual returns. The

Altman-Kuehne Index of Defaulted Bonds ended 2011 with a return of -3.66%, and

the Index of Defaulted Loans also performed similarly, decreasing by -2.31%13

. The

Combined Index of Defaulted Bonds and Bank Loans was down by -3.02%, the fifth

lowest return in its 16 year history.

As for distressed debt, hedge-fund indexes fared only slightly better in 2011 than our

long-only, 100% invested defaulted debt indexes reported above. These indexes

reflect actual performance averages of samples of hedge funds. Results were

Hennessee (-2.36%), HFR (-2.42%), Dow Jones/Credit Suisse (-4.24%) and

Greenwich Van Hedge (-1.90%). The average performance in 2011 of these four

indexes was a negative 2.73%.

13 The NYU Salomon Center maintains three defaulted debt indexes and reports these performance statistics on a monthly total return

basis. For more information, call (212) 998-0701.


51

Appendix A

Quarterly Default Rate Comparison — Altman-Kuehne/NYU-SC and Moody’s

U.S. High-Yield Bond Market, 1989–201 (Dollars in Billions)

Quarter

Par Value Debt

Outstanding

($)

Debt Defaulted

By Quarter ($)

Quarterly

Default Rates

(%)

Altman-

Kuehne/NYU-SC

12M Moving

Average (%)

Moody's 12-Mo.

U.S. Issuer

Based Moving

Average (%)

1989 1Q 165.00 1.15 0.70 2.45 3.25

2Q 172.00 1.40 0.81 2.11 2.70

3Q 189.26 3.07 1.62 3.47 4.39

4Q 185.00 2.49 1.35 4.29 5.93

8.11

1990 1Q 185.00 4.16 2.25 6.01 7.02

2Q 185.00 2.51 1.36 6.61 8.71

3Q 181.00 6.01 3.32 8.20 9.80

4Q 181.00 5.67 3.13 10.14 10.92

18.35

1991 1Q 182.00 8.74 4.80 12.67 13.24

2Q 182.00 2.75 1.51 12.73 13.99

3Q 183.00 5.01 2.74 12.18 13.03

4Q 183.00 2.36 1.29 10.31 10.97

18.86

1992 1Q 183.20 3.33 1.82 7.35 8.33

2Q 151.10 1.26 0.83 6.52 6.54

3Q 163.00 0.37 0.23 4.84 5.84

4Q 151.89 0.59 0.39 3.40 5.73

5.55

1993 1Q 193.23 0.38 0.20 1.71 5.34

2Q 193.23 1.33 0.69 1.39 4.93

3Q 206.91 0.05 0.03 1.22 4.52

4Q 190.42 0.52 0.27 1.10 3.79

2.29

1994 1Q 232.60 0.67 0.29 1.35 3.06

2Q 230.00 0.16 0.07 0.60 1.90

3Q 235.00 0.41 0.17 0.76 2.37

4Q 235.00 2.18 0.93 1.45 2.11

3.42

1995 1Q 240.00 0.17 0.07 1.24 1.42

2Q 240.00 1.68 0.70 1.85 2.41

3Q 240.00 0.98 0.41 2.09 2.60

4Q 240.00 1.72 0.72 1.90 3.56

4.55

1996 1Q 255.00 0.44 0.17 2.01 3.71

2Q 255.00 0.89 0.35 1.58 3.00

3Q 271.00 0.41 0.15 1.36 2.20

4Q 271.00 1.59 0.59 1.23 1.95

3.34

1997 1Q 296.00 1.85 0.63 1.75 1.87

2Q 318.40 0.60 0.19 1.51 1.92

3Q 335.40 1.48 0.44 1.74 2.33

4Q 335.40 0.27 0.08 1.25 2.20

4.20

1998 1Q 379.00 2.37 0.63 1.41 2.69

2Q 425.70 1.22 0.29 1.41 3.12

3Q 465.50 1.62 0.35 1.29 2.96

4Q 481.60 2.26 0.47 1.60 3.83

7.46


52



(Continued)

Quarter

Par Value Debt

Outstanding

($)

Debt Defaulted

By Quarter ($)

Quarterly

Default Rates

(%)

Altman-

Kuehne/NYU-SC

12M Moving

Average (%)

Moody's 12-Mo.

U.S. Issuer

Based Moving

Average (%)

1999 1Q 515.00 4.76 0.92 2.05 3.88

2Q 537.20 8.42 1.57 3.31 5.08

3Q 567.40 5.24 0.92 3.85 5.87

4Q 580.00 5.11 0.88 4.15 5.80

23.53

2000 1Q 584.00 6.06 1.04 4.28 6.36

2Q 595.60 9.97 1.67 4.52 6.61

3Q 597.50 4.32 0.72 4.27 6.64

4Q 608.15 9.95 1.64 5.07 7.03

30.29

2001 1Q 613.20 18.07 2.95 6.96 7.61

2Q 648.60 12.82 1.98 7.37 7.88

3Q 649.00 14.65 2.26 8.56 9.64

4Q 647.70 18.07 2.79 9.80 10.60

63.61

2002 1Q 669.00 18.54 2.77 9.89 11.00

2Q 674.00 27.07 4.02 11.71 10.03

3Q 757.00 37.48 4.95 15.01 8.63

4Q 756.30 13.77 1.82 12.80 6.96

96.86

2003 1Q 750.00 7.62 1.02 11.36 5.57

2Q 774.50 14.54 1.88 9.79 5.80

3Q 825.00 13.25 1.61 6.35 5.77

4Q 856.00 3.04 0.36 4.66 5.48

38.45

2004 1Q 886.00 3.07 0.35 3.96 4.73

2Q 919.60 1.75 0.19 2.38 4.01

3Q 933.10 3.80 0.41 1.27 3.11

4Q 948.50 3.04 0.32 1.25 3.01

11.66

2005 1Q 939.30 1.68 0.18 1.08 3.02

2Q 952.00 1.87 0.20 1.11 2.42

3Q 1,073.00 20.71 1.93 2.87 2.62

4Q 1066.10 11.95 1.12 3.37 2.54

36.21

2006 1Q 1039.00 3.39 0.33 3.56 2.43

2Q 1022.35 0.96 0.09 3.56 2.65

3Q 993.60 1.47 0.15 1.74 2.46

4Q 970.40 1.74 0.18 0.76 2.08

7.56

2007 1Q 1053.90 0.87 0.08 0.52 1.80

2Q 1066.80 1.82 0.17 0.56 1.92

3Q 1075.40 0.88 0.08 0.50 1.67

4Q 1069.90 1.91 0.18 0.51 0.90

5.47

2008 1Q 1089.90 3.57 0.33 0.76 1.74

2Q 1083.40 10.68 0.99 1.56 2.43

3Q 1091.00 5.02 0.46 1.95 3.40

4Q 1086.80 31.49 2.90 4.65 4.43

50.76

2009 1Q 1083.60 39.86 3.68 8.01 8.12

2Q 1082.60 44.16 4.08 11.12 11.60

3Q 1152.95 9.60 0.83 11.56 13.41

4Q 1177.41 30.26 2.57 10.74 13.22

123.88


53



(Continued)

Quarter

Par Value Debt

Outstanding

($)

Debt Defaulted

By Quarter ($)

Quarterly

Default Rates

(%)

Altman-

Kuehne/NYU-SC

12M Moving

Average (%)

Moody's 12-Mo.

U.S. Issuer

Based Moving

Average (%)

2010 1Q 1183.00 1.85 0.16 7.31 10.98

2Q 1210.32 1.03 0.09 3.63 6.29

3Q 1221.57 5.35 0.44 3.20 3.99

4Q 1257.78 5.58 0.44 1.13 3.32

13.81

2011 1Q 1277.84 1.73 0.14 1.09 2.88

2Q 1306.19 1.18 0.09 1.08 2.60

3Q 1354.65 5.97 0.44 1.11 2.02

4Q 1327.49 8.92 0.67 1.31 1.82

17.81

Sources: Moody's issuer-based and NYU Salomon Center’s dollar-based default rates (1989-

2011).


54

Appendix B

Defaulted Corporate Straight Bond Issues — 2011 (Dollars in Millions)

Company Bond Issue

Coupon

(%) Maturity Date

Outstanding

Amount ($MM) Default Date

Angiotech Pharmaceuticals, Inc. Senior sub. 7.75 4/1/2014 250.00 1/30/2011

Angiotech Pharmaceuticals, Inc.a Senior unsecured 4.05 12/1/2013 325.00 1/30/2011

Guitar Center Holdings, Inc. Senior unsecured 14.09 4/15/2016 401.76 2/24/2011

Sbarro, Inc. Senior unsecured 10.38 2/1/2015 150.00 3/1/2011

Ahern Rentals, Inc. Senior secured 9.25 8/15/2013 236.67 3/15/2011

Harry & David Holdings, Inc.a Senior unsecured 5.31 3/1/2012 58.17 3/28/2011

Harry & David Holdings, Inc. Senior unsecured 9.00 3/1/2013 140.19 3/28/2011

Keystone Automotive Operations, Inc. Senior unsecured 9.75 11/1/2013 172.70 3/28/2011

Satelites Mexicanos, S.A. de C.V. a Secured 9.56 11/30/2011 238.24 4/6/2011

Satelites Mexicanos, S.A. de C.V. Secured 10.13 11/30/2013 197.87 4/6/2011

Perkins & Marie Callender's, Inc. Senior unsecured 10.00 10/1/2013 190.00 5/1/2011

Perkins & Marie Callender's, Inc. Secured 14.00 5/31/2013 103.06 6/13/2011

Nebraska Book Company, Inc. Secured 10.00 12/1/2011 200.00 6/27/2011

Nebraska Book Company, Inc. Senior unsecured 8.63 3/15/2012 175.00 6/27/2011

Nebraska Book Company, Inc. Senior disc. notes 11.00 3/15/2013 77.00 6/27/2011

Opti Canada, Inc. Secured 8.25 12/15/2014 1,000.00 7/13/2011

Opti Canada, Inc. Secured 7.88 12/15/2014 750.00 7/13/2011

Opti Canada, Inc. Senior secured 9.00 12/15/2012 525.00 7/13/2011

Opti Canada, Inc. Senior secured 9.75 8/15/2013 300.00 7/13/2011

Compton Petroleum Corp. Senior unsecured 10.00 9/15/2017 193.50 8/23/2011

NewPage Corp. Senior secured 6.50 5/1/2012 222.76 9/7/2011

NewPage Corp. Senior secured 10.00 5/1/2012 783.04 9/7/2011

NewPage Corp. Senior sub. 12.00 5/1/2013 200.00 9/7/2011

NewPage Holding Corp. a Senior unsecured 7.43 11/1/2013 229.04 9/7/2011

NewPage Corp. Senior secured 11.38 12/31/2014 1,770.00 9/7/2011

Real Mex Restaurants, Inc. Secured 14.00 1/1/2013 130.00 10/4/2011

Friendly Ice Cream Corp. Senior notes 8.38 6/15/2012 7.80 10/5/2011

Hovnanian Enterprises, Inc. Senior unsecured 6.50 1/15/2014 16.70 10/29/2011







MF Global Holdings Ltd. Senior unsecured 6.25 8/8/2016 325.00 10/31/2011

Dynegy Holdings, LLC Senior unsecured 8.38 5/1/2016 1046.83 11/7/2011







Dynegy Holdings, LLC (NGC Corp.) Subordinated 8.32 6/1/2027 200.00 11/7/2011

Trailer Bridge, Inc. Senior secured 9.25 11/15/2011 82.50 11/15/2011

General Maritime Corp. Senior unsecured 12.00 11/15/2017 300.00 11/17/2011

PMI Group, Inc., The Junior sub. 8.31 2/1/2027 51.59 11/23/2011

PMI Group, Inc., The Senior unsecured 6.00 9/15/2016 250.00 11/23/2011

PMI Group, Inc., The Senior unsecured 6.63 9/15/2036 150.00 11/23/2011

AMR Corp. Senior unsecured 9.20 1/30/2012 7.70 11/29/2011



AMR Corp. (American Airlines, Inc.) Senior unsecured 7.50 3/15/2016 1,000.00 11/29/2011

AMR Corp. (American Airlines, Inc.) Senior unsecured 13.00 8/1/2016 206.06 11/29/2011


55

Defaulted Corporate Straight Bond Issues — 2011 (Dollars in Millions) (Continued)

Company Bond Issue

Coupon

(%) Maturity Date

Outstanding

Amount ($MM) Default Date












St. Louis Post-Dispatch (Lee

Enterprises, Inc.)

Senior secured 9.05 12/31/2015 126.40 12/12/2011

Mrs. Fields Famous Brands, LLC Senior secured 10.00 10/24/2014 59.54 12/13/2011

GMX Resources, Inc. Senior unsecured 11.38 2/15/2019 198.00 12/14/2011

Delta Petroleum Corp. Senior sub. 7.00 4/1/2015 150.00 12/15/2011

FiberTower Corp. Senior secured 9.00 1/1/2016 124.21 12/15/2011

William Lyon Homes, Inc. Senior unsecured 10.75 4/1/2013 138.76 12/19/2011


William Lyon Homes, Inc. Senior notes 7.63 12/15/2012 3.50 12/19/2011


River Rock Entertainment Authority Senior secured 9.75 11/1/2011 196.39 12/19/2011

Crystallex International Corp, Senior unsecured 9.38 12/23/2011 100.00 12/23/2011

Dune Energy, Inc. Senior secured 10.50 6/1/2012 297.01 12/20/2011

AES Eastern Energy, L.P. Senior secured 9.00 1/2/2017 171.44 12/30/2011

AES Eastern Energy, L.P. Senior secured 9.67 1/2/2029 268.00 12/30/2011

Total 17,812.63

Total Number of Issues 78

Total Number of Companies 31 aFRN.



56

Appendix C

Distressed Exchanges, 2011

Issuer Name

Distressed

Exchange Date

Amount Exchanged

($ Millions)

Guitar Center Holdings, Inc. 2/24/2011 401.76

Keystone Automotive Operations, Inc. 3/28/2011 172.70

Compton Petroleum Corp. 8/23/2011 193.50

Hovnanian Enterprises, Inc. 10/29/2011 195.00

Mrs. Fields Famous Brands, LLC 12/13/2011 59.54

GMX Resources, Inc. 12/14/2011 198.00

River Rock Entertainment Authority 12/19/2011 196.39

Dune Energy, Inc. 12/20/2011 297.01

Total $ Amount of Distressed Exchanges $1,713.90

Total Number of Issuers 8



57

Appendix D

Leveraged Loan Defaults, 2011

Company Default Date

Summit Business Media Holding Co. 26-Jan-11

Sbarro, Inc. 1-Feb-11

Caribe Media, Inc. 4-May-11

Graceway Pharmaceuticals, LLC 29-Sep-11

Total Number of Companies 4

Source: S&P LCD.


58

Appendix E

Chapter 11 Filings in 2011 — Listed by Liability Size, Liabilities

Greater Than $100 Million (Dollars in Millions)

Company

Date of

Filing Liabilities ($)

MF Global Holdings Ltd. Oct-11 39,683.92

AMR Corp. Nov-11 29,552.00

Dynegy Holdings, LLC Nov-11 6,181.00

NewPage Corp. Sep-11 4,469.00

MSR Resort & Golf Course, LLC Feb-11 1,900.00

General Maritime Corp. Nov-11 1,412.90

Borders Group, Inc. Feb-11 1,293.11

Lee Enterprises. Inc. Dec-11 994.55

PMI Group, Inc., The Nov-11 829.26

a AES Eastern Energy, L.P. Dec-11 750.00

a Ahern Rentals, Inc. Dec-11 750.00

a Appleseed's Intermediate Holdings, LLC Jan-11 750.00

a Graceway Pharmaceuticals, LLC Sep-11 750.00

a New Stream Secured Capital, Inc. Mar-11 750.00

Solyndra, LLC Sep-11 750.00

William Lyon Homes, Inc. Dec-11 610.26

Nebraska Book Company, Inc. Jun-11 563.97

Satelites Mexicanos, S.A. de C.V. Apr-11 531.64

Terrestar Corp. Feb-11 494.51

Sbarro, Inc. Apr-11 486.56

Evergreen, Solar, Inc. Aug-11 485.60

Barnes Bay Development Ltd. Mar-11 462.00

Jackson Hewitt Tax Service, Inc. May-11 444.85

Perkins & Marie Callender's, Inc. Jun-11 440.82

Majestic Capital Ltd. Apr-11 421.76

Constar International, Inc. Jan-11 414.00

Harry & David Holdings, Inc. Mar-11 360.83

Omega Navigation Enterprises, Inc. Jul-11 359.53

Hingham Campus, LLC Jun-11 330.16

Delta Petroleum Corp. Dec-11 310.68

DSI Holdings, Inc. (Deb Shops, Inc.) Jun-11 271.10

Alexander Gallo Holdings, LLC Sep-11 258.00 CDC Corp. Oct-11 250.18

b 785 Partners, LLC Aug-11 250.00

b AES Thames, LLC Feb-11 250.00

b Boewe Bell & Howell Co. Apr-11 250.00

b Chef Solutions Holdings, LLC Oct-11 250.00

b Clare At Water Tower Nov-11 250.00

b Dallas Stars, LP Sep-11 250.00

b FRE Real Estate, Inc. Jan-11 250.00

b Friendly Ice Cream Corp. Oct-11 250.00

b Hawaii Medical Center Jun-11 250.00

b Indianapolis Downs, LLC Apr-11 250.00

b KMC Real Estate Investors, LLC Apr-11 250.00

b Los Angeles Dodgers, LLC Jun-11 250.00

b M Waikiki, LLC Aug-11 250.00

b Marco Polo Seatrade B.V. Jul-11 250.00

b Miramar Real Estate Management, Inc. Mar-11 250.00

b Northampton Generating Co., LP Dec-11 250.00

b Pacific Monarch Resorts Oct-11 250.00

b Peregrine I, LLC Apr-11 250.00

b PTL Holdings, LLC Aug-11 250.00

b R.E. Loans, LLC Sep-11 250.00

b Scovill Fasteners, Inc. Apr-11 250.00

b Security National Properties Funding III

LLC

Oct-11 250.00

b Ultimate Acquisition Partners, LP Jan-11 250.00


59

Chapter 11 Filings in 2011 — Listed by Liability Size, Liabilities

Greater Than $100 Million (Dollars in Millions) (Continued)

Company

Date of

Filing Liabilities ($) b VFF TIC, LLC Jun-11 250.00

b Waterscape Resort, LLC Apr-11 250.00

b Wolf Mountain Resorts, LC May-11 250.00 Real Mex Restaurants, Inc. Oct-11 249.96 Caribe Media, Inc. May-11 185.59 ShengdaTech, Inc. Aug-11 180.86 ArchBrook Laguna Holdings, LLC Jul-11 176.40 Berkline/Benchcraft Holdings, LLC May-11 167.50 155 East Tropicana, LLC Aug-11 162.00 Clare Oaks Dec-11 136.90 Southwest Georgia Ethanol, LLC Feb-11 134.10 GP West, Inc. Jun-11 132.83 Swiss Chalet, Inc. May-11 132.74 Seahawk Drilling, Inc. Feb-11 124.47 Trailer Bridge, Inc. Nov-11 118.13 Crystallex International Corp. Dec-11 115.07 Nutrition 21, Inc. Aug-11 112.85 Open Range Communications, Inc. Oct-11 110.00 ALC Holdings, LLC Dec-11 109.20 Raser Technologies, Inc. Apr-11 107.80 Lyman Lumber Co. Aug-11 100.30 Total Liabilities 56,805.73

a Liabilities between $500 million and $1 billion according to petition. Midpoint of

range used as estimate. b

Liabilities of $100–500 million, according to petition.

Midpoint of range used as estimate.

Sources: NYU Salomon Center and New Generation Research.


60

Appendix F

Defaults by Industry — 2011

Company Industry

AES Eastern Energy, L.P. Electric Services

Ahern Rentals, Inc. Equipment Rental & Leasing - NEC

AMR Corp. Air Transportation, Scheduled

Angiotech Pharmaceuticals, Inc. Surgical & Medical Instruments &

Apparatus

Compton Petroleum Corp. Crude Petroleum & Natural Gas

Crystallex International Corp. Gold Mining

Delta Petroleum Corp. Crude Petroleum & Natural Gas

Dune Energy, Inc. Oil & Gas Field Services, NEC

Dynegy Holdings, LLC Electric Services

FiberTower Corp. Radiotelephone Communications

Friendly Ice Cream Corp. Retail - Eating Places

General Maritime Corp. Deep Sea Foreign Transport of Freight

GMX Resources, Inc. Crude Petroleum & Natural Gas

Guitar Center Holdings, Inc. Musical Instruments Stores

Harry & David Holdings, Inc. Retail Stores - NEC

Hovnanian Enterprises, Inc. Operative Builders

Keystone Automotive Operations, Inc. Motor Vehicle Supplies & New Parts

MF Global Holdings Ltd. Security & Commodities Brokers, Dealers,

Exchanges & Services

Mrs. Fields Famous Brands, LLC Retail - Food Stores

Nebraska Book Company, Inc. Book Stores

NewPage Corp. Paper Mills

Opti Canada, Inc. Crude Petroleum & Natural Gas

Perkins & Marie Callender's, Inc. Retail - Eating Places

PMI Group, Inc., The Surety Insurance

Real Mex Restaurants, Inc. Retail - Eating & Drinking Places

River Rock Entertainment Authority Amusement & Recreation Services

Satelites Mexicanos, S.A. de C.V. Radiotelephone Communications

Sbarro, Inc. Retail - Eating Places

St. Louis Post-Dispatch (Lee

Enterprises, Inc.)

Newspapers: Publishing or Publishing &

Printing

Trailer Bridge, Inc. Water Transportation

William Lyon Homes, Inc. Operative Builders



61

Appendix G

2011 Emergences From Bankruptcy (Dollars in Millions)

Restructured Bonds ($)

First Quarter

Advanta Corp. 100

Fairpoint Communications, Inc. 531

General Motors Corp. 10,459

InSight Health Services Holdings Corp. 296

Loehmann’s Holdings, Inc. 110

Tronox, Inc. 350

Total First Quarter $11,846

Second Quarter

Colonial Bancgroup, Inc. 887

Constar International, Inc. 395

Molecular Insight Pharmaceuticals, Inc. 199

Satelites Mexicanos S.A. de C.V. 436

Station Casinos, Inc. 2,300

Wolverine Tube, Inc. 131

Total Second Quarter $4,348

Third Quarter

Capmark Financial Group, Inc. 2,338

Harry & David Holdings, Inc. 198

Total Third Quarter $2,536

Fourth Quarter

Local Insight Media Holdings, Inc. 211

Majestic Star Casino, LLC, The 500

Perkins & Marie Callender’s, Inc. 293

Sbarro, Inc. 150

Total Fourth Quarter $1,154

Total $19,883

Sources: New Generation Research and NYU Salomon Center Defaulted Bonds Database.

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