Corporate debt is getting out of control.
If you’ve been reading the Dispatch, this isn’t news to you. For months, we’ve been pointing out that U.S. corporations are borrowing massive sums of money.
They’ve borrowed almost $10 trillion in the bond market since 2008, including a record $1.5 trillion last year.
You may not think Corporate America’s debt addiction is your problem. After all, you aren’t the one who borrowed far more money than you can ever pay back.
But, as you’ll see, this debt is a huge threat to anyone with money in the stock market.
• Standard & Poor’s (S&P) issued a troubling warning this month…
S&P is one of America’s biggest credit agencies. It monitors the financial health of Corporate America.
Recently, S&P looked at the balance sheets of 2,000 U.S. corporations. It published the results of this study earlier this month. The findings are startling…
According to S&P, U.S. corporations have a record $1.84 trillion in cash on their books. That’s the good news. The bad news is that more than half of this cash belongs to just 25 companies, or about 1% of Corporate America. The group includes tech giants like Apple (AAPL) and Microsoft (MSFT).
• Meanwhile, the rest of Corporate America is racking up huge debts while having little cash on hand…
If you remove the top 25 cash holders, you’ll find that for most of Corporate America, cash on hand is declining even as these companies rack up more and more debt at historic rates. The bottom 99% of corporate borrowers have just $900 billion in cash on hand to back up $6 trillion in debt. “This resulted in a cash-to-debt ratio of 12%—the lowest recorded over the past decade, including the years preceding the Great Recession,” the report reads.
A cash-to-debt ratio compares how much cash a company has compared to debt. The higher the ratio, the better. A cash-to-debt ratio of 12% means companies have just $0.12 of cash for every dollar of debt.
You can see in the chart below that Corporate America’s cash-to-debt ratio has been falling since 2010. According to S&P, corporate balance sheets are the weakest they’ve been in at least a decade.
• The Federal Reserve encouraged U.S. corporations to borrow trillions of dollars…
As you likely know, the Fed has held its key interest rate near zero since 2008. It did this to encourage borrowing and spending. We were told this would “stimulate” the economy.
The plan backfired.
Companies didn’t borrow to buy machinery, equipment, or anything else that grows a business. Instead, they borrowed to buy other companies and their own stock, also known as a “share buyback.”
Acquisitions and buybacks have made corporate profits appear bigger “on paper.” But they haven’t actually made companies stronger. Instead, they’ve made companies more vulnerable to the coming crisis…
• Dispatch readers know we think the global economy is on the cusp a major financial crisis…
Casey Research founder Doug Casey thinks the coming crisis “will in many ways dwarf the Great Depression of 1929–1946.” When it hits, Doug says “paper currencies will fall apart, as they have many times throughout history.”
E.B. Tucker, editor of The Casey Report, also thinks the dollar will eventually collapse. But he thinks we will first have a “deflationary depression.” He explains why in this short video.
• A deflationary depression could pop America’s corporate debt bubble…
Deflation is when prices for goods and services fall. It’s the opposite of inflation.
Deflation sounds like a good thing to a lot of people. After all, who doesn’t like paying less for food, clothing, and gasoline?
While deflation can be good for consumers, it can be disastrous for businesses, and therefore the stock market. It’s especially bad for companies that borrowed too much money.
If prices are falling, that means the dollar is getting stronger. And a stronger dollar makes it harder to pay back loans.
Let’s say we get 5% deflation. A company that borrowed $100,000 will effectively have to pay back $105,000. In other words, deflation makes a company’s debt more “expensive.”
That’s a big problem. As we said earlier, Corporate America has never had more debt.
• Companies are already struggling to pay their bills…
More than 70 corporations have defaulted this year. According to S&P, global corporate defaults are happening at the fastest pace since 2009.
Companies are defaulting for two main reasons. One, they have too much debt. Two, their profits are falling.
As we’ve been pointing out, profits for companies in the S&P 500 are on track to decline for a fourth straight quarter. That hasn’t happened since the 2009 financial crisis.
Last month, French bank Société Générale warned that falling profits and excessive debt would lead to many more U.S. defaults.
Whole economy profits never normally fall this deeply without a recession unfolding. And with the U.S. corporate sector up to its eyes in debt, the one asset class to be avoided — even more so than the ridiculously overvalued equity market — is U.S. corporate debt. The economy will surely be swept away by a tidal wave of corporate default.
• The U.S. manufacturing sector is acting like a recession has begun…
Last week, we told you U.S. capacity utilization is at the lowest level since the financial crisis. This important metric measures how many factories and plants are currently in use. A low number means a lot of factories are sitting idle, not producing goods.
You can see in the chart below that capacity utilization is below 75% for the first time since 2008. This means nearly three out of ten machines are sitting idle.
• When companies have a lot of unused capacity, it’s hard to raise prices…
E.B. Tucker explains:
You see, if demand picks up, there’s an idle machine nearby whose owner is willing to put it to use. He’s just glad it’s being used. He’s definitely not in a position to charge more since there are several idle machines to choose from. In fact, it’s more likely he’ll undercut his competition just to have the work.
E.B. adds that companies with a lot of debt face the most pressure to cut prices:
If a company borrowed $100 million to build a new factory, it has to repay that cheap money over 10 years. But its competitors sit with idle factories willing to produce at any price to avoid bankruptcy. To compete, it has to drop prices…so it has less money coming in to pay its debts…and forget about profits.
• These days, most companies have too much debt…
Hundreds of companies could slash prices if deflation takes hold.
Corporate profits could collapse. And that means companies would have even less money for dividends, buybacks, and acquisitions.
• U.S. stocks are very risky and have little upside right now…
You can protect yourself by holding cash and physical gold.
A cash reserve will help you avoid losses if stocks fall. It will also allow you to buy stocks when they get cheaper.
Holding physical gold is another simple way to avoid losses. Gold is money. It’s preserved wealth for centuries because it has a unique set of qualities: It’s durable, easily divisible, and portable. Its value is intrinsic and recognized around the world.
You could also make money by shorting (betting against) expensive stocks or weak companies. In The Casey Report, E.B. is shorting one of America’s most vulnerable companies, a major airliner.
The airline industry has been booming since the 2008–2009 financial crisis. In fact, the stock E.B.’s shorting has soared an incredible 1,600% since March 2009. It’s beaten the S&P 500 eight-to-one.
But this airline boomed because it binged on cheap money. The company is still recklessly borrowing and spending money, even as the economy weakens. The worse the economy gets, the harder it will be for the company to pay off its debt. And that could cause the stock to plummet.
Readers of The Casey Report are up 15% on this short since February. But E.B. says the stock could fall 50% or more.
E.B.’s airline short is just one way he’s prepared The Casey Report portfolio for the coming deflationary depression. For other ways to “crisis proof” your wealth, watch this short video. You’ll also learn how you can get access to E.B.’s best investing ideas for 50% off our regular price. Click here to watch.
Chart of the Day
U.S. corporations are much weaker than they were twenty years ago…
Today’s chart shows the number of companies with triple-A credit ratings. This is the highest credit rating a company can receive.
In 1992, 98 U.S. companies had triple-A ratings. You can see the number of companies with this rating plunged after the 2008 financial crisis. Today, Johnson & Johnson (JNJ) and Microsoft are the only two American companies with triple-A credit.
U.S. corporations have loaded up on debt over the past eight years. According to the Financial Times, U.S. corporations have $4 trillion more debt on their balance sheets today than they did at the start of 2008.
Longtime Casey readers know we don’t put much stock in these ratings. Many companies that failed during the 2008 financial crisis had strong credit ratings right up until they went broke.
However, the near extinction of triple-A-rated companies shows you how fragile the market is today.
If you choose to own stocks, stick with companies with little to no debt. These companies have a much better chance of surviving the deflationary depression.
Delray Beach, Florida
May 31, 2016
We want to hear from you.
If you have a question or comment, please send it to [email protected]. We read every email that comes in, and we'll publish comments, questions, and answers that we think other readers will find useful.