NEW YORK – Oct. 17, 2011 – Events in Europe still pose a threat to U.S. markets, but U.S. companies at least are giving investors less to worry about.
The number of U.S. companies missing debt payments is steadily falling and dropped to just 1.9 percent of companies in the 12 months ended in September, down from 11.5 percent as of November 2009, says Standard & Poor’s.
That’s the lowest default rate since April 2008.
The lack of corporate deadbeats amid a challenging economy is an encouraging sign that companies, after going overboard on debt just a few years ago, have their finances in order. “Companies are pretty healthy, despite what’s going on in the rest of the economy,” says Mario DeRose, fixed income strategist at Edward Jones. “It’s a nice position to be in.”
A 1.9 percent default rate, while low, is still up from the record-breaking low 1 percent default rate notched at the end of 2007, S&P says. And investors aren’t completely at ease; they have demanded higher interest rates from companies with low credit ratings, relative to U.S. Treasuries, since the end of August.
Still, investors are marveling at how steadfast companies have been in meeting their debt obligations, and point to several reasons for it, including:
• Taking advantage of low interest rates. Savvy companies have been refinancing debt at lower rates and pushed back the due dates in many cases, says Bonnie Baha, bond manager at DoubleLine. Many companies exchanged debt with rates at the lowest they’ve been in decades, she says.
• Hoarding cash. Companies are amassing huge chests of cash, giving them a cushion to keep up with their lower debt payments, says Marilyn Cohen of Envision Capital Management. Large U.S. companies are sitting on a record $976 billion in cash, up 8.2 percent from the same time last year, according to S&P’s analysis of the non-financial members of the S&P 500 index. Dividends, which use cash, are up 12.7 percent over the past 12 months, yet that’s still outpaced by 18.9 percent profit growth during that time.
• Postponing investment in new ventures. Companies remain in hunker-down mode and are conservative with spending, says Bill Larkin of Cabot Money Management. That’s good for bondholders, and lowering defaults, but it also contributes to unemployment, he says. “No one is taking on risk,” he says.
Larkin expects that as soon as bold companies start to invest, their rivals will need to catch up by spending and hiring, too. A surge in risk-taking could result in higher default rates.
Meanwhile, weakness remains. Roughly 80 companies hold S&P’s lowest credit rating, double the normal level after a recession, and could stumble if the economy falters, says S&P’s Diane Vazza. “If we go into a double-dip recession, that will paint a very different picture,” she says.