Corporate Bond Doomsayers Are a Little Premature
The credit-market bears may well be vindicated if the US enters a recession in the next year, but it’s too early to go full-scale Armageddon with predictions about corporate bond spreads.
For all the economic headwinds, US corporations started the year from a position of extraordinary financial strength thanks to opportunistic refinancing in 2020 and 2021 and strong cash reserves accumulated during the pandemic. While clearly increasing from late 2021 levels, trailing 12-month high-yield default rates are still low for normal times, let alone recessions, and it could take several quarters for the defaults to start materializing in significant numbers.
In their baseline scenario, Moody’s Investors Service analysts led by Sharon Ou forecast that default rates will continue ticking higher from here but remain below the 39-year historical average through at least August 2023. Meanwhile, a Bloomberg measure of bankruptcy activity hit the lowest level on record earlier in the year and has inched up only slightly. Credit spread blowouts tend to occur when large-scale bankruptcies are actually on the economy’s doorstep, not in anticipation of events that may be almost a year in the future.
In that sense, the corporate bond market finds itself in much the same no man’s land as the rest of the US economy. Predictions of a looming recession still have to be balanced against the near-record low unemployment rate and manageable debt service ratios. And the US consumer, the engine of the American economy, still looks resilient, which should buttress growth and corporate earnings.