Commentary on Political Economy

Tuesday 5 January 2021


Distressed debt specialist Howard Marks warns on corporate borrowing burden

Howard Marks: ‘Even borrowers that eventually are profitable may find themselves over-levered after the pandemic and struggle to service their debt’ © Christopher Goodney/Bloomberg

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Companies may find themselves excessively indebted after the coronavirus pandemic even if their businesses rebound, Oaktree Capital founder Howard Marks has warned, underlining the strain facing corporate America.

Mr Marks, one of the best-known specialists in distressed debt, told the Financial Times that capital markets have raced “far ahead of the economic fundamentals”, after optimism over a vaccine-led rebound drove US stocks to record highs.

“The market is so bifurcated, high relative to historic valuations,” he added. “And bonds [and] credit are offering in general the lowest returns in history.”

While stimulus measures and borrowed money could help keep companies stay afloat, it would not secure their futures if they struggled to return to profitability, Mr Marks said. “Even borrowers that eventually are profitable may find themselves over-levered after the pandemic and struggle to service their debt,” he said.

Companies went on a borrowing binge in 2020, stockpiling cash to outlast deep declines in turnover caused by the pandemic. Global corporate debt issuance surged to $5.4tn, a record high and more than a fifth above year-ago levels, according to data provider Refinitiv. Companies also tapped the syndicated loan market for a further $3.5tn. Coupled with the downturn in profitability for much of the corporate world, the borrowing spree has driven up leverage ratios.

Column chart of Global corporate bond and syndicated loan issuance, by year ($tn) showing Companies have binged on debt to outlast the pandemic

Rating agency S&P Global warned last month that 515 companies remained on unstable footing, with finances so precarious that they could fall into bankruptcy or require a restructuring. While that figure has steadily declined from a high in May, analysts with the rating agency still forecast a dramatic uptick in defaults, which they estimate could by September hit 9 per cent of US groups with a “junk” credit rating.

Despite the shakier balance sheets, debt prices have rallied as investors have bet on an economic revival in 2021. Oaktree was among the investment shops that lent to in-need borrowers during the market sell-off in March, with Mr Marks saying the group had “made significant investments” at the time.

Line chart of Trailing 12-month default rate of speculative-rated companies (%) showing Corporate defaults surge as pandemic hits businesses

That enthusiasm has waned somewhat, given rocketing asset prices, even though Mr Marks does not expect a second recession to materialise in the months ahead. The benchmark S&P 500 climbed 16 per cent in 2020, despite the recession and pandemic, while junk bonds had a total return of 6 per cent, according to ICE Data Services.

The rally in lowly rated debt and big one-day pops in recent initial public offerings have been evidence of the risks investors were willing to take in their hunt for a return, Mr Marks said. Rising prices of equities and credit have been spurred by stimulus from legislators in Washington as well as from the Federal Reserve, which moved to backstop financial markets in March and April. Although some of the Fed’s emergency facilities expired at the end of 2020.

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