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Don’t Confuse GE and GE Capital Corp. Bonds

By: The Financial Lexicon

(April 2012) Just a few years ago, General Electric’s (GE) debt was Aaa rated by Moody’s.  Then, in March 2009, GE lost that coveted rating.  Fast forward to April 2012 and once again GE finds its senior unsecured debt downgraded by Moody’s, this time to Aa3 from Aa2.  Moody’s also recently downgraded the senior unsecured debt of GE’s wholly-owned subsidiary, General Electric Capital Corp. (GECC), two notches to A1 from Aa2.

In the press release, Moody’s stated that it downgraded both GE and GECC as a result of revising its global rating methodology for finance companies.  It mentioned that despite GECC improving its liquidity and capital levels since the beginning of the most recent credit crisis, there remains “material risks” with the firm’s funding model.  Furthermore, in the press release, Moody’s lead analyst for GE stated that GE’s industrial operations still have many Aaa-like credit characteristics and that the downgrade has more to do with Moody’s view of the risk profile for GECC rather than risks related to the parent company.  In other words, General Electric Capital Corp., a subsidiary, is the cause of the downgrade, not any problems with the parent company’s business.

How is this relevant to investors?

When shopping for GE bonds, retail investors will find it quite difficult to find anything other than General Electric Capital Corp. debt.  While there are a couple parent company GE CUSIPs available to retail investors (369604BC6 and 369604AY9, for instance), you will notice that GECC bonds dominate the General Electric inventory.  As a retail investor, it is important to keep in mind that when buying General Electric Capital Corp.’s senior unsecured debt, you are not only no longer buying debt with the same rating as the parent company, but are in fact buying a company with a standalone credit rating lower than what you see advertised on the bond.

For example, GECC’s January 8, 2020 maturing, 5.50% coupon bond (CUSIP:  36962G4J0) with a 3.443% yield-to-maturity and an A1 rating by Moody’s is, on a standalone basis, actually a Baa1 bond.  This is four notches below the parent company and three notches below the advertised rating on GECC’s debt.  So why is GECC’s debt rated A1 when the standalone rating is Baa1?  As Moody’s puts it, this reflects the view that while support from GE is highly likely, it is “not certain in the absence of a guarantee.”

If I were thinking about purchasing GECC’s debt, I would first ask myself the following question:  In the event that GECC were on the verge of a debt default and a bailout by the parent company would require a sum of money that would put undue hardship on GE, would GE guarantee GECC’s debt?  I’m not convinced GE would do so.  GE is, in my opinion, a too-big-to-fail company and a company that will not be put in jeopardy to save the bondholders of a subsidiary.

In closing, Moody’s recent downgrades of GE and its subsidiary GECC provide an opportunity to remind investors that if you are purchasing General Electric Capital Corp.’s debt thinking that you are purchasing a bond guaranteed by the same financial strength as the parent company’s senior unsecured debt, this is not the case.  Furthermore, it is important to keep in mind that when purchasing a GECC bond with an A1 rating, three notches worth of that rating has to do with the fact that GECC is highly likely to receive support from its parent company if need be.  However, in the event of serious stresses in GECC’s business, there is no guarantee that GE will bail out its subsidiary.  In fact, under certain scenarios, it could be argued that GE would choose a route that would favor its shareholders over GECC’s bondholders.

About “The Financial Lexicon”

I am an investor/trader with nearly nine years experience in the financial world.  I have experience investing in and trading equities, options, and a variety of fixed income and alternative investment products.  I also write for SeekingAlpha.com

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