Standard & Poor's on Thursday cut its ratings on about $290 billion of General Motors Corp. (GM) and Ford Motor Co. (F) bonds to junk, jolting financial markets and further hampering the automakers as they grapple with brutal competition.
The downgrades, the largest ever of their kind, sent stocks and the U.S. dollar lower, while safe-haven Treasury bond prices jumped.
"Junk," or speculative-grade bonds slumped as investors braced for the market to grow by as much as 15 percent in short order. With junk ratings, the automakers have fewer avenues for raising funds because many large institutional investors cannot buy speculative-grade debt. These types of issuers are deemed more likely to default.
Both companies said they were disappointed with the action.
The companies' shares and bonds dropped about 5 percent and the cost of protecting Ford (search) and GM (search) debt against default surged. The cuts to junk were expected, but came much sooner than investors had anticipated.
The automakers are struggling with high health-care, pension and materials costs. At the same time, vehicles made by foreign automakers have captured a growing share of the U.S. auto market from the Big Two.
"I don't see anything helping them out now. I don't see any rays of sunshine," said Wilmer Stith, who helps manage some $2 billion of bonds at MTB Investment Advisors in Baltimore. MTB has small holdings of General Motors bonds.
GM and Ford reported lower April U.S. vehicle sales on Tuesday, even as Toyota Motor Corp.'s U.S. sales rose 21 percent from last year for its best month ever.
GM and Ford's sports utility vehicle and truck sales fell. Those vehicles have provided the automakers with most of their auto-related profits since the late 1990s, but have become less attractive as gasoline prices have climbed.
Ford's shares closed down 46 cents, or 4.53 percent, at $9.70 on the New York Stock Exchange. GM's shares fell $1.94, or 5.91 percent, to $30.86.
Many investors fear the junk bond market could be overwhelmed by GM and Ford debt. But some analysts say fears of excessive selling are overblown.
Some analysts noted that the S&P news was not all bad. The companies have ample cash for at least the next several years, and although they will have trouble issuing unsecured bonds in the near term, they can still issue secured bonds.
Even billionaire investor Kirk Kerkorian (search), who announced on Wednesday that he was raising his stake in GM to 9 percent, said he is still committed to the automaker.
The downgrades are unlikely to affect the companies' borrowing costs in the near term, S&P analyst Scott Sprinzen said in a conference call.
Fitch Ratings and Moody's Investors Service, the other two major ratings agencies, still rate Ford and GM at investment-grade status. Neither would comment on their ratings or whether they might change Ford or GM's ratings soon.
Standard & Poor's cut GM and its General Motors Acceptance Corp. (search) finance unit's long-term credit ratings by two notches to "BB," the second-highest junk rating. The outlook on the new rating is negative, signaling that another downgrade in the next 24 months is possible.
The agency cut Ford and Ford Motor Credit Co.'s long-term credit ratings by one notch to "BB-plus," the highest junk rating, from "BBB-minus." The outlook on the new rating is also negative.
A GM spokesman said the company was disappointed with the downgrades, but that it has ample cash and liquidity to fund its business for the foreseeable future.
Ford Chief Financial Officer Don Leclair said in a statement that the company disagreed with S&P's action. "We're disappointed that it discounts our considerable liquidity and our access to diverse funding sources, as well as the recent successes of our new products."
S&P's cutting GM and Ford forces many investment-grade investors to sell their holdings to the much smaller group of portfolio managers eligible to hold junk debt.
The automakers' debt will leave the Lehman Brothers U.S. Aggregate Bond Index at the end of the month. But depending on what other ratings agencies do, the bonds may return to the index in July when the index's new inclusion rules take effect.
Between them, the two auto giants have some $453 billion of debt outstanding, which analysts estimate includes some $220 billion to $290 billion of unsecured corporate bonds that will become junk after the cuts.
General Motors Corp.'s bonds due 2033 with an 8.375 percent coupon fell 5 cents on the dollar to 74 cents on the dollar, according to MarketAxess.
Ford Motor Credit Co.'s notes due 2013 with a 7 percent coupon fell 5 cents on the dollar to 87.5 cents on the dollar.
The cost of protecting GMAC's debt against default for five years rose 170 basis points to 710 basis points, or $710,000 a year for every $10 million of principal protected.
The cost of protecting Ford Credit's debt against default for five years rose some 180 basis points to 610 basis points, or $610,000 a year for every $10 million of principal protected.