Rising from the Ashes: Fallen Angel Corporate Bond Price Recovery Post-Downgrade and Dealer Inventory Dynamics

Rayhan Momin, Finance PhD student

In this paper, we investigate fire sales induced by fallen-angel (FA) downgrades of corporate bonds and corresponding dealer inventory build-ups around downgrades. Regulatory restrictions of insurance companies and pension funds, investment charter constraints of mutual funds and investment professional specialization lead to sharp increase in supply of bonds that are recently downgraded. We find that immediately after FA downgrades, bonds experience significant price decline while dealers absorb excess supply leading to large inventory build-up. Subsequently, as dealers gradually unload the bonds to new investors, bond prices experience an extended reversal over a 6-7 month period.