The volume of corporate debt reached an all time high in real terms of $13.5trn at the end of 2019, driven by the return of more expansionary monetary policies early in the year. At the same time, the overall quality of corporate debt has declined, according to a new OECD report.
Corporate bond market trends, emerging risks and monetary policy say that non-financial companies borrowed $2.1trn in the form of corporate bonds in 2019. However, the data show that, in comparison to previous credit cycles, today’s stock of outstanding corporate bonds has lower overall credit quality, higher payback requirements, longer maturities and inferior investor protection. This may amplify the negative effects that an economic downturn would have on the non-financial corporate sector and the overall economy.
OECD Secretary-General Angel Gurría said, “Structural reforms and monetary policy have promoted the use of corporate bond markets as a viable source of long term funding for non-financial companies since the global financial crisis.
“The high levels of leverage in the corporate sector now make it essential to put in place reforms that make all parts of capital markets fit for purpose. This must include steps to improve the ability of equity markets to strengthen corporate balance sheets and support long-term investments.”
Just over half (51%) of all new investment grade bonds in 2019 were rated BBB, the lowest investment-grade rating. During the period 2000-2007, only 39% of investment grade issues were rated BBB.
The portion of non-investment grade issuance has also increased. Since 2010, at least 20% of all bond issues have been non-investment grade and, in 2019, they accounted for 25% of all non-financial corporate bond issues. This is the longest period since 1980 when the portion of non-investment grade issuance has remained this high and indicates that default rates in a future downturn will likely be higher than in previous credit cycles.
Large issuance of BBB-rated bonds, non-investment grade bonds and bonds from emerging market corporations since 2008 has resulted in lower credit quality bonds dominating the global outstanding stock. In 2019, only 30% of the global outstanding stock of non-financial corporate bonds were rated A or above and issued by companies from advanced economies.
The growing outstanding stock of corporate bonds is associated with an increase in repayment obligations in both absolute and relative terms. At the end of 2019 non-financial companies worldwide had to repay or refinance an unprecedented $4.4trn worth of corporate bond debt within three years. This represents a record 32.4% of the total outstanding amount of corporate bonds, up from about 25% ten years ago.
Supported by a low interest rate environment, the mechanics of the credit ratings have allowed companies to increase their leverage ratios and still maintain their ratings. Today, the median firm in each investment grade rating is more leveraged than a decade ago. Without the support of low interest rates or in the case of a business downturn, the same rating mechanics that allowed increased leverage will result in downgrades that increase the borrowing costs for companies and limit their scope for investments.