High-Yield Default Rate on the Rise: Moody’s

Profits shrank and the capacity utilization rate dropped in 1998 and 1999. The related overexpansion “drained corporate incomes as the default rate grinded higher,” the economist says.

In contrast, the capacity utilization rate for the manufacturing sector is up 0.6% on a yearly basis through July 2015, “which benefits corporate bottom lines even at that modest pace of growth,” he adds.

Looking at what happened in eight years ago, the default rate rise played out over 24 months — defaults climbed from 1% in December 2007 to 13.7% in November 2009.

“Comparing current conditions to the last recession, there is now cause for concern as profits from current production falter, likely to expand overall this year at less than 2%,” Garber stated. “But tailwinds lifting the results of industries deriving their sales from the U.S. bring reason for optimism compared to the severe financial market turbulence that created the Great Recession.”

Sector Situations

In particular, he notes, the health care and homebuilding sectors are benefiting from rising incomes and regulatory changes, which is producing profits that preserve credit quality.

On the flip side, metals and mining are having a rough time.

While there is a 372 basis-point spread of the U.S. high-yield health care sector in the Barclays indices, the metals and mining sector is nearing a distressed six-year high of 929 basis points.

“Mining companies face an outlook that may soon resemble the second quarter’s dire performance of the energy sector, where revenues plunged 33% as profits fell by 57%,” the economist said.

His conclusion? The persistently below-average high-yield credit spreads “of many solidly performing U.S. corporate sectors point to investor confidence in broad areas outside of raw materials.”

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