In a stark signal of financial distress, the United States is witnessing a surge in corporate bankruptcies, poised to reach a 13-year high, according to recent research by Guggenheim Investments. This unsettling trend comes in the wake of the Federal Reserve’s relentless pursuit of escalating interest rates, which is beginning to take a toll on businesses across the nation. Since the start of the year, more than 450 companies have sought bankruptcy protection, surpassing the annual totals of the past two years.
The research, spearheaded by renowned U.S. economist Mike Bush and his team at Guggenheim, paints a sobering picture. They foresee bankruptcy filings continuing at this accelerated pace, reaching levels not seen since the turbulent year of 2010. Several factors are contributing to this unsettling development, including waning support stemming from declining inflation rates, an expanding fiscal deficit, and the absence of widespread workforce reductions.
As these once-robust economic tailwinds begin to fade, the Guggenheim research team foresees a deceleration in the U.S. economy toward the year’s end, with the ominous spectre of a possible recession looming on the horizon by early 2024. Corporate defaults typically arise when companies find themselves unable to meet their debt obligations, and their financial liquidity dries up.
The Federal Reserve’s relentless drive to elevate interest rates has substantially increased borrowing costs, now hovering at a level not witnessed in over two decades, ranging between 5.25% and 5.5%. Despite the anticipated status quo at its forthcoming September meeting, the central bank is poised to maintain these elevated rates for an extended period.
During the pandemic’s throes, numerous corporations capitalised on historically low interest rates to refinance their debts, offering some respite from the Fed’s relentless hikes. However, Guggenheim emphasises that higher interest rates are not universally detrimental to businesses. Despite corporations grappling with borrowing costs ranging from 5.8% to 8.4% in the corporate bond market, their overall interest expenses have diminished due to gains derived from cash and cash-like investments.
In a striking revelation, Guggenheim estimates that U.S. nonfinancial corporations are reaping a record $171 billion in interest income from their holdings in cash, Treasury, and Agency debt—an impressive surge of $102 billion from the preceding year. The research team anticipates that companies, particularly those in high-margin and cash flow industries, will demonstrate resilience as the economy undergoes a slowdown, with corporations now boasting their best ability to meet interest payments since 1960.
However, the outlook is less sanguine for debt-burdened firms. BofA Global warns that the U.S. high-yield, or “junk,” bond market finds itself grappling with a Federal Reserve compelled to maintain high interest rates to achieve its 2% annual inflation target. Credit strategist Oleg Melentyev contends that the credit market could endure a 3% Consumer Price Index (CPI) scenario even at current valuations. However, should CPI rise to 4%, cumulative defaults could soar to 10%, with substantial downgrades in the high-risk CCC-ratings category. A CPI ascent to 5% could potentially trigger a full-scale wave of defaults, casting a long shadow over the corporate landscape.