Defaults may not be as high as forecast -Moody's

By Richard Barley

LONDON, April 17 (Reuters) - Moody's Investors Service said on Thursday the global default rate may not climb as high as its model forecasts, as balance sheets remain reasonably strong and high-yield bond spreads may not be reflecting expected losses.

Moody's earlier this year forecast on the basis of its model that default rates for debt-laden companies would rise sharply to 5 percent by end-2008 from a current level of 1.5 percent.

However, based on an analysis of balance sheet strength, refinancing risk and market spreads, the rate is more likely to reach 3 to 4 percent by year-end, Moody's said.

The lower forecast may reassure jittery markets concerned about the spill-over impact of the financial crisis onto the real economy. While defaults will rise, a rate of 3-4 percent is still below the long-run historical average of around 4.5 percent.

However, Moody's warned that default rates would rise further in 2009 as refinancing risk built and as balance sheets became more strained.

SPREADS MAY REFLECT LIQUIDITY, NOT DEFAULTS

A key input for the model is high-yield bond spreads. Data from Merrill Lynch shows that global junk bond spreads stand at 738 basis points over government bonds, up from 594 basis points on Jan. 1 and 287 basis points at the end of the first half of 2007. However, "in contrast to previous credit crises, current credit market dislocations did not originate from the non-financial corporate sector," Moody's said.

"As a result, recent increases in high-yield bond spreads may more proportionally reflect increases in liquidity and risk premiums, rather than increases in expected corporate credit losses," the agency said.

In addition, balance sheets of U.S. non-financial corporations -- which account for the bulk of high-yield bond issuers -- "look in reasonably strong condition relative to prior periods leading up to recessions", Moody's said.

"Near-term refunding risks for Moody's rated speculative-grade issuers are relatively low due to the refinancing wave of the past several years," the agency added.

Moody's noted that model-based forecasts had persistently overestimated the default rate between 2005 and 2007. It said this was due to very easy credit market conditions that had allowed companies that would have defaulted under more normal circumstances to refinance. (Reporting by Richard Barley, editing by Will Waterman)