NEW YORK -- The downgrades of General Motors and Ford Motor Co. to junk status by Standard & Poor's will force investors to sell bonds of the two largest U.S. automakers, as the debt falls out of the most widely followed U.S. bond index.
Paradoxically, though, those bonds might soon jump right back into the index and prompt renewed buying.
Lehman Brothers in January changed its criteria for inclusion in its U.S. Aggregate Bond Index, which tracks investment-grade credits. It decided to use the middle rating from the three top U.S. credit rating agencies -- S&P, Moody's Investors Service and Fitch Ratings -- to determine what to include.
But that change doesn't take effect until July 1. Under the current guidelines, Lehman uses the lower rating from S&P and Moody's. The latter still rates the bonds investment-grade.
This means the bonds will fall out of the index, forcing sales by many portfolio managers who are not allowed to own junk bonds. But it also means the bonds will jump back in on July 1, if Moody's and Fitch preserve their low investment grades for the automakers.
"The timing is an anomaly, but it's not as though it wasn't in investors' war-game scenarios," said Glenn Reynolds, chief executive of CreditSights Inc., an independent bond and stock research service. "One thing about a rules-based index is you have to be very transparent, clear and objective, so everyone can plan their portfolio decisions accordingly."
Indeed, managers had already sold many auto bonds. GM's 8.375 percent bonds maturing in 2033 closed Wednesday at 80 cents on the dollar, yielding 10.62 percent, according to NASD bond pricing service TRACE. They fell another 6 cents on the dollar after the S&P downgrade.
Nick Gendron, who oversees Lehman's index offerings, was not immediately available for comment.
S&P downgraded GM's senior unsecured debt two notches to "BB" from "BBB-minus," and Ford's debt one notch to "BB-plus" from "BBB-minus." It expressed skepticism that management at either company will successfully address such challenges such as falling market share, high health-care and pension costs, and aging or uncompetitive products.
Ford and GM are the second- and third-largest issuers in Lehman's U.S. Credit Index, after General Electric Co.
When Lehman changed its index criteria, many investors and analysts saw the move as a reprieve of sorts for GM, whose ratings were considered more precarious. It was also considered a status enhancement for Fitch, the smallest of the big agencies.
Reynolds said some GM and Ford bond investors who otherwise would not own junk bonds will sit tight.
He said only a "distinct minority" are obligated to sell upon a downgrade to junk, while others are simply guided by the Lehman index, and still others need not sell at all.
"Insurance companies, for example, are very rarely forced sellers in the wake of a downgrade," he said.