Alarms are ringing in the corporate debt market.
If you’ve been reading the Dispatch, this won’t surprise you.
We’ve said many times that Corporate America has too much debt. Since 2007, U.S. corporations have borrowed almost $10 trillion in the bond market. Last year, they borrowed a record $1.5 trillion.
Again, this isn’t news to regular readers. But you may not realize how much bigger this problem has become in just the past few months…
According to Business Insider, the largest U.S. corporations borrowed $517 billion over the past year. That’s the second most of any 12-month period in history. It’s also 90% bigger than the corporate debt binge we saw during the dot-com bubble. And it’s 50% bigger than the debt build-up that occurred before the 2008 financial crisis.
Companies are borrowing billions of dollars at the worst possible time.
• Corporate balance sheets are incredibly fragile…
In 2010, America’s 2,000 biggest corporations owed $3.8 trillion in debt. According to rating agency Standard & Poor’s (S&P), that number hit $6.6 trillion last year.
In just six years, the amount of outstanding corporate debt has nearly doubled.
To make matters worse, Corporate America is running low on cash.
According to S&P, the smallest 99% of the corporate borrowers have just $900 billion in cash compared to $6 trillion in debt. Put another way, they have $0.12 in cash for every dollar of debt.
• The Federal Reserve made it cheap for companies to borrow trillions of dollars…
In 2008, the Fed dropped its key interest rate to effectively zero. It’s held it near zero for eight years. It did this to encourage borrowing and spending.
But the Fed didn’t stop there. It also pumped $3.5 trillion into the financial system through an experimental policy known as quantitative easing (QE)—which is just another name for money printing.
These radical policies were supposed to “stimulate” the economy.
• E.B. Tucker, editor of The Casey Report, explains why the Fed went to such extreme lengths…
Growth at all costs.
When it comes to the economy, this is the unofficial motto of the U.S. government.
Guided by this principle, the government has piled trillions of dollars of debt onto American households…created laughably huge sums of new money…and held interest rates at unnaturally low levels for eight years.
All in the name of growth.
Don’t get us wrong. Growth is often a worthy goal.
A growing bank account…a growing business…a growing nest egg. These are all great things.
But by borrowing $8.2 trillion to “stimulate” the economy since the 2008 financial crisis, the U.S. government has created a different kind of growth.
A perverse kind…a cancerous kind…a kind you don’t want.
• Most Americans have no clue how sick the economy is today…
They think the economy is doing fine. That’s because gross domestic product (GDP), the government’s official yardstick for the economy, has grown every quarter since the end of the 2009 recession.
What the government won’t tell you is that America is actually growing at its slowest pace since World War II. Even worse, the economy hasn’t kept up with the huge surge in debt.
You can see what we’re talking about in the chart below. This chart shows how much debt non-financial corporations owe relative to GDP. The higher the ratio, the more outstanding corporate debt there is relative to the size of the economy.
You can see this key ratio is approaching a record high. The last three times corporate debt raced ahead of the economy like this, recessions followed.
• Debt isn’t as big of a problem when the economy is growing…
When times are good, most companies make enough money to pay their debt bills. And companies that do run into trouble can often borrow more money to keep the lights on.
But when growth falters, debt becomes a big problem.
Companies make less money. Many fall behind on their payments. Some even default or go bankrupt.
This ugly unwinding process often starts to unfold when it looks like the economy is doing OK. That’s exactly what’s happening in America right now.
• Commercial loan delinquencies are rising at their fastest pace on record…
As you may know, a loan becomes delinquent when a borrower gets 30 days behind on his debt payment. A borrower will become delinquent before he files for bankruptcy.
That’s why we watch delinquencies closely. A big jump in delinquencies can signal problems in the debt market long before you see a spike in bankruptcies.
You can see in the chart below that the number of delinquent commercial loans (30 days or more) has soared to new highs. Delinquencies are rising faster today than they did during the last financial crisis.
• We expect many more companies to fall behind on their payments…
Not only are American companies overloaded with debt…they’re also struggling to make money.
As Dispatch readers know, profits for companies in the S&P 500 have fallen four straight quarters. That’s the longest earnings drought since the 2008–2009 financial crisis.
And it’s only going to get worse. According to research firm FactSet, Wall Street expects the S&P to show a 4.9% decline in second-quarter profits. The second quarter ends on June 30.
Right now, the debt market is saying something is very wrong with economy. It won’t be long before these problems appear in the stock market. And when they do, history shows that it won't be pretty.
The last time we saw these kinds of warnings in the debt market, U.S. stocks plummeted 57% (2007 to 2009).
• Even if you don't own a single stock, we encourage you to watch this short video…
That’s because the coming crisis will be almost impossible to escape. It won’t matter if your money is in stocks, a pension, or a 401(k).
Chart of the Day
Investors are paying more for less…
Today’s chart shows the S&P 500 and the trailing 12-month earnings for companies that make up the index. You can see earnings stopped growing in 2014.
Since then, earnings have kept falling. As we said earlier, Wall Street expects them to decline again next quarter. That would mark the fifth straight quarter of declining earnings, which is the longest such streak since the 2008–2009 financial crisis.
Meanwhile, the S&P 500 hasn’t set a new high in over a year. But it hasn’t fallen much, either.
With earnings in decline and stocks going nowhere, investors are paying more for every dollar S&P 500 companies earn. In other words, even though stocks aren’t rising, they’re getting more expensive.
That’s a big reason why E.B.’s not buying in the broad stock market. Instead, he’s recommending stocks “the market doesn’t understand,” and companies that can make money no matter what happens to the economy.
This approach has paid off for Casey Report subscribers. One stock E.B. recommended in January is up 35%. Another is up 48% since March. He also recommended two stocks in April that are up 39% and 46%, respectively.
You can learn more about E.B.’s investing approach by watching the short video we told you about earlier. You will discover how you can access E.B.’s best investing ideas for 50% off the regular price. Click here to learn more.
Delray Beach, Florida
June 17, 2016