Currently, the default rates among the most leveraged companies remain low despite the fact that the debt levels of US corporations are beyond crisis highs. The economy is exhibiting significant growth, so perhaps it’s no surprise that the high-yield bond mark is quiet.
Some analysts see the deviation between debt levels and defaults as a warning sign that the rising debt eventually will trick some investors to complacency and implode the bond market. Other analysts, however, argue that globalization and the tendency of US businesses to stockpile cash as reasons why debt levels and defaults rates are no longer in sync.
In Q4 2017, the high-yield default rate fell to 3.3% while US nonfinancial-corporate debt came in at 45.4% of GDP for 2017. In 2009, the debt level was also around 45% of GDP, but the default rate was much higher than in 2017—it was 11.1% for Q2 2009. It is, of course, important to point out that Q2 2009 was the final quarter of the deepest recession since the Great Depression, while we are currently in the eighth year of economic expansion.
Globalization and cash hoarding
According to John Lonski, chief economist at Moody’s Capital Market Research, the answer “might be supplied by the ever-increasing globalization of US businesses where the more relevant denominator is not US GDP, but world GDP.”
In today’s globalized economy, the fortunes of US companies are tied to the global economy. For instance, when growth in China and other emerging markets was crippled by dropping commodity prices in 2015/2016, high-yield bonds were hit as well. With today’s increasing commodity prices and global growth, it’s no surprise that issuers of high-yield bonds aren’t in any real trouble.
According to Lonski, the tendency of US corporations to hoard cash could be another reason for the anomaly. The ratio of net corporate debt to GDP, which subtracts total debt by the amount of cash noted in business balance sheets, was at 33.2%, well below the 45.2% observed in the broader debt-to-GDP ratio.
However, when looking at these statistics, we must keep in mind that the high concentration of cash can be found among relatively few yet highly creditworthy companies. These include Apple and Microsoft, companies that used to issue debt backed by the collateral of their overseas profits for share buybacks and other remuneration. For most companies, this is will be a temporary phenomenon as their debt will catch up to them as interest rates rise.