New York, May 29, 2014 -- Moody's Investors Service has changed the ratings on preferred shares
issued by two PIMCO closed end funds. The following ratings were
affected:
- PIMCO Corporate & Income Opportunity Fund (PTY) -
Series M, T, W, TH and F for $325 million of
auction rate preferred shares (ARPS)— Ratings upgraded to A2 (sf)
from A3 (sf)
- PIMCO High Income Fund (PHK) - Series M, T,
W, TH and F for $292 million of auction rate preferred shares
-- Ratings downgraded to A2 (sf) from A1 (sf)
These actions reflect the respective changes in the funds' asset
coverage ratios and economic leverage, resulting from changes in
the funds' level of derivative exposures. The implicit subordination
of preferred shares to contingent liabilities arising from derivative
transactions has evolved over the last 12 months, respectively improving
PTY's and weakening PHK's ability to meet a mandatory or optional
redemption of the ARPS at a time of market stress. The funds'
outstanding amounts of ARPS have not changed, and represent a relatively
low degree of leverage before consideration of the portfolio-leveraging
effect of derivatives.
RATINGS RATIONALE
PTY and PHK invest in multiple asset classes including corporate bonds,
municipal bonds, leverage loans, equities, preferred
securities, mortgage and asset-backed securities.
While the explicit leverage of these funds is relatively low, at
22% and 23% respectively, they use derivatives and
other portfolio leveraging techniques (including credit default swaps
("CDS") and reverse repurchase agreements) to amplify their
investible asset base.
The funds tend to have strong portfolio diversity, with the asset
quality metric ranging between above average and weak, depending
on the portfolio mix at any time. Their fixed charge ratios tend
to be very strong, benefitting from the variable cost of leverage
and the higher yielding nature of their portfolios.
The upgrade to A2 (sf) of PTY's preferred shares reflects improvement
in the fund's key asset coverage metrics, due to a decrease
in the fund's leverage. In the past, PTY was a heavy seller
of credit default swaps, which had the effect of increasing the
fund's effective leverage. PTY's notional exposure to CDS
decreased from $753 million in May 2012 to $288 million
as of 30 April 2014. In addition, the fund has reduced its
use of reverse repurchase agreements, which have declined to zero
from $205 million on 31 May 2012. Total leverage (including
CDS and reverse repurchase agreements) has declined to 36% (as
of 30 April) compared to 55% at the earlier period.
The downgrade to A2 (sf) of the PHK's preferred shares reflects
the overall increase of the fund's credit risk, due to the
increasingly active use of off-balance sheet leveraging investment
techniques, such as interest rate swaps and currency forwards,
in combination with a rising leverage trend. PHK is an aggressively
managed fund, with the objective of paying a high dividend rate
to its common shareholders. To meet its objectives, the portfolio
manager uses a range of techniques that have the effect of increasing
the fund's portfolio duration and the volatility of its net asset
value relative to other income-oriented multiple asset-class
funds. In addition, over the recent quarters there was a
trend of increased use of leverage, in the form of reverse repurchase
agreements, which have tripled since September 2013, to $394
million. Total leverage (as calculated by Moody's,
including CDS and reverse repurchase agreements) has risen to 42%
(as of 30 April) compared to 28% at 31 March 2012.
Because these two funds are managed on a highly opportunistic basis,
Moody's evaluates them over time relative to the potential risks
they may assume during an investment cycle. A point in time review
of these funds is less telling of their potential risk, since at
any time shifts in credit quality may alter the risk-adjusted asset
coverage of the funds' liabilities, or derivative transactions
may change the contingent liabilities that subordinate the preferred shares.
For example, we have observed sharp movements in exposures to credit
risk, involving significant changes in sector exposures and in the
average credit ratings of the securities held. Both funds currently
are using interest rate swaps to increase their portfolio durations,
whereas two years ago they carried little if any such exposure.
Conversely, currency forward agreements, which positioned
both funds in the past to benefit from a stronger dollar have been reduced.
The A2 (sf) ratings of the funds may come under pressure (i) if the funds'
risk complexion changes, (ii) if their use of leverage (including
portfolio leverage) changes or (iii) if they increase off-balance
sheet use of derivatives such as interest rate swaps or currency forward
contracts, without a commensurate, offsetting change in portfolio
quality. In particular, PHK, given its income objective,
will be monitored in connection with the recent trend of increasing leverage
and risk.
Allianz Global Investors Fund Management LLC ("AGIFM"), an indirect,
wholly-owned subsidiary of Allianz Global Investors of America
L.P., serves as the Funds' investment manager and
is a member of Munich-based Allianz Group. Pacific Investment
Management Company LLC, an AGIFM affiliate, serves as the
Funds' sub-adviser.
The principal methodology used in these ratings was "Moody's Methodology
for Rating Securities Issued by U.S. Closed-End Funds"
published in May 2013. Please see the Credit Policy page on www.moodys.com
for a copy of this methodology.
REGULATORY DISCLOSURES
Moody's did not receive or take into account a third-party
assessment on the due diligence performed regarding the underlying assets
or financial instruments related to the monitoring of these transactions
in the past six months.
Moody's did not use any models, or loss or cash flow analysis,
in its analysis.
For ratings issued on a program, series or category/class of debt,
this announcement provides certain regulatory disclosures in relation
to each rating of a subsequently issued bond or note of the same series
or category/class of debt or pursuant to a program for which the ratings
are derived exclusively from existing ratings in accordance with Moody's
rating practices. For ratings issued on a support provider,
this announcement provides certain regulatory disclosures in relation
to the rating action on the support provider and in relation to each particular
rating action for securities that derive their credit ratings from the
support provider's credit rating. For provisional ratings,
this announcement provides certain regulatory disclosures in relation
to the provisional rating assigned, and in relation to a definitive
rating that may be assigned subsequent to the final issuance of the debt,
in each case where the transaction structure and terms have not changed
prior to the assignment of the definitive rating in a manner that would
have affected the rating. For further information please see the
ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.
For any affected securities or rated entities receiving direct credit
support from the primary entity(ies) of this rating action, and
whose ratings may change as a result of this rating action, the
associated regulatory disclosures will be those of the guarantor entity.
Exceptions to this approach exist for the following disclosures,
if applicable to jurisdiction: Ancillary Services, Disclosure
to rated entity, Disclosure from rated entity.
Regulatory disclosures contained in this press release apply to the credit
rating and, if applicable, the related rating outlook or rating
review.
Please see www.moodys.com for any updates on changes to
the lead rating analyst and to the Moody's legal entity that has issued
the rating.
Please see the ratings tab on the issuer/entity page on www.moodys.com
for additional regulatory disclosures for each credit rating.
Neal M Epstein
VP - Senior Credit Officer
Financial Institutions Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653
Yaron Ernst
MD - Managed Investments
Structured Finance Group
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454
Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653
Moody's changes the ratings on preferred shares issued by two PIMCO funds
