If, and it’s a big if, we are through the worst of the pandemic emergency, what should bond investors expect to happen to corporate bond defaults? Will the pace of growth slow down or should we expect a pickup in defaults? S&P Global Ratings head of research Alexandra Dimitrijevic has dusted down her crystal ball and pondered what the current numbers on ratings tell us about what might happen next year.  Her analysis suggests that downgrades have slowed but negative outlooks are at unprecedented highs. This is the case for both non financial corporates (37%) and banks (30%) globally, indicating more rating actions ahead. Crucially her analysis suggests that credit metrics are increasingly diverging between industries. Some sectors have been barely touched by the pandemic, such as tech, consumer staples, homebuilders, and retail essentials. For others, including airlines, hotels, and auto to name a few, the credit damage will go well into 2023.Negative rating actions (downgrades, negative outlooks, or negative CreditWatch placements) have affected between 60% and 80% of rated corporates globally, in sectors such as capital goods, transport, auto, media and entertainment, and energy. Crucially S&P forecasts that “the speculative-grade corporate default rate to double by June 2021 to 12.5% in the U.S. from the current 6.2%, and to 8.5% in Europe from 3.8%.”

Global liquidity improving again

My guess is that as the Second Wave intensifies in Europe and now the US (or is it the third wave in some places??), we’ll see much more aggressive monetary easing. If Biden wins the US general election, the markets will also expect a massive fiscal boost. So, remembering our old dictum – follow the money flows, be bullish if freshly printed money is flooding the system – we could see a late 2020, Jan 2021. But even before we get there, there is growing evidence that central banks are bumping up there liquidity injections. Or at least that’s what analysts at Cross Border Capital maintain in their latest note out this week.

Latest weekly balance sheet data from the World’s major Central Banks show a gentle rise in aggregate liquidity growth. Central Bank expansion in response to the Covid-19 Crisis peaked in mid-June but has recently re-started led by the US Federal Reserve. Late-Summer saw demand for liquidity and recourse to other emergency monetary policy facilities abate, as economies stabilised. This renewed impetus, led by the Fed, coincides with a loss of momentum in the US economy and the reintroduction of stricter lockdowns in many countries.

The aggregate balance sheet growth of the World’s major Central Banks has picked up to 18.9% (3m ann.). (Data for the G4 (exc. China) show a higher growth rate of circa 22%.) The turnaround at the Fed is behind the upturn – the scale of earlier monetary expansion dwarfs the current pace but Fed liquidity growth (22% 3m ann.) is now back in double-digits for the first time since mid-July. Meanwhile, the People’s Bank of China has tightened again (-1.0%), in sync with Renminbi easing versus the US dollar.”