What is a Fallen Angel?
A fallen angel is a bond which once carried a high rating and displayed exceptional performance, but has since experienced a serious sustained decline in ratings and market demand.
How Does a Fallen Angel Work?
For the last five years, the Standard & Poor's agency gave Company XYZ an investment-grade rating of A, meaning it believes XYZ is a quality company with low credit risk. After a major shift in the economy, Company XYZ experienced a dramatic decrease in their sales numbers for three consecutive quarters. As a result, Standard & Poor's downgraded Company XYZ's credit rating to CCC, a junk-bond status reserved for speculative companies that could possibly not make its debt commitments. Company XYZ's bond would then be considered a fallen angel.
Why Does a Fallen Angel Matter?
A bond with a credit-rating that has declined far enough to qualify it as a fallen angel will often experience even further declines as investors learn of its downgraded status. This compounded drop in value can have serious repercussions for a company, and can eventually lead to further rate cuts, and further declines. Because changes in credit-ratings can have significant impacts on the underlying companies, it is critical to investors that the agencies making the assignments are impartial.