A credit rating downgrade for BHP Billiton is likely

WHETHER BHP Billiton scraps its progressive dividend policy or not, it risks a credit ratings downgrade as the collapse in oil and iron ore shows no sign of abating.

The price to protect BHP bonds from non-payment reached a four-year high of 132.5 basis points on November 13 as the yield premium offered over swop rates surged for its debt. While the company is graded at the highest A level by the three major ratings companies, Bloomberg’s defaultrisk model indicates its creditworthiness is more in line with the highest BBB score, three levels lower.

Iron ore, the top earner for the world’s biggest mining company, has dropped to a fourmonth low, challenging BHP’s strategy of maintaining, or increasing, dividend payments, while protecting a so-called “solid A” credit rating.

The company is also under pressure following this month’s deadly disaster at its Samarco joint iron ore operation with Vale in Brazil, where tailings dams ruptured and devastated communities.

“We view BHP as a downgrade candidate in the coming six months or 12 months,” Chris Walter, a Sydney-based credit strategist at Commonwealth Bank of Australia, said.

“We have uncertainty around the ultimate costs around Samarco, which is pushing the spreads a bit wider, and then there’s also the commodities price, China’s slower growth and whether we have reached a bottom for prices of oil and iron ore.”

Both Standard & Poor’s and Fitch Ratings have graded BHP at A+, the fifth-highest grade, with a negative view on the company. It carries the equivalent A1 score from Moody’s Investors Service with a stable outlook. The metals and energy producer targeted ratings of A+ or A from S&P and A1 or A2 from Moody’s, it said in August. The company declined to provide comment on the prospect of a ratings downgrade.

“They are certainly falling below the range of A+,” as the prices of BHP’s main commodities declined, Perth-based Macquarie Group analyst Hayden Bairstow said. The bank saw a downgrade from A+ to A as likely, he said. A ratings cut to A was a possibility, Deutsche Bank analysts said in a note on Friday.

Benchmark iron ore has slumped by more than a third this year, while copper has plunged by about a quarter and crude oil has declined about 20 percent.

The cost of insuring BHP’s debt with credit-default swops (CDS) has climbed 54 basis points since December 31 to 130.6 points on Thursday, compared with a 43.4 basis point increase for Rio Tinto Group. The BHP CDS is above the iTraxx Australia index by the most since 2008.

The yield premium over the swop rate on the miner’s A$1 billion (R10.07bn) of March 2020 bonds widened to 154 basis points on November 13, based on prices from Australia & New Zealand Banking Group, having been sold at a gap of 87 basis points in March.

With commodity prices tumbling, investors including Argo Investments have questioned whether BHP should continue to target increases to dividend payouts. – Bloomberg