- This chart looks at investment-grade corporate debt
or debt that ratings firms consider pretty safe.
There's a lot of it out there right now.
Over the past decade,
companies borrowed more and more
as interest rates hovered near zero.
Now, analysts are concerned.
That's because about half of that debt
or $3.7 trillion is rated Triple-B,
the lowest rating investment-grade debt can receive.
And some are worried this debt isn't as safe
as the ratings suggest.
Companies that make well-known products
like Campbell's Chicken Soup and Elmer's Glue
have had debt rated Triple-B.
Analysts say the debt could be a mess in the making
especially if the economy enters a recession.
To understand why investors are concerned,
you need to understand how corporate debt is rated.
Think of these ratings as credit scores for corporations
but instead of using numbers,
ratings firms assign letter grades from A to D.
The higher the grade, the less likely the company is
to default on its debt.
Each one of those ratings is broken down further
into triple, double, and single-letter categories.
So Triple-A debt is safer than single A.
Triple-B debt sits just above an important dividing line.
Everything above this line is considered higher quality
investment-grade debt.
Everything below is considered risky or junk debt.
It carries a higher risk of default.
The worry is that if the economy takes a turn,
some Triple-B debt will slide into junk territory.
A key metric for how these ratings are assigned is leverage.
Leverage is a ratio of how much debt a company owes
compared to its earnings.
The more debt a company has relative to its earnings,
the higher the leverage.
It's an important factor in determining
how safe a company's debt might be.
Since the financial crisis,
companies have a lot more leverage.
In 2009, corporations had a little over
twice as much debt than earnings.
By 2019, that ratio had increased
to about three times earnings.
And when you just look at Triple-B rated debt,
that ratio is even higher.
This is what's concerning investors and analysts.
They say that in the past,
companies with this amount of leverage
would have been rated in the junk category
which is far riskier.
This has caused a divisive debate
over whether this debt will cause big losses
when the economy turns.
- Business debt has clearly reached a level
that should give businesses and investors
reason to pause and reflect.
If financial economic conditions were to deteriorate,
overly indebted firms could well face severe strains.
- For their part, ratings firms like Moody's and S&P
say other factors also play a role in assigning ratings.
Having a solid brand and generating sufficient cash flow
to pay bond holders can also influence a company
being rated investment-grade.
Ratings firms make predictions
about what a company's leverage ratio
would look like in the future.
For highly leveraged companies,
these predictions can serve as a deadline
to keep their investment-grade status.
If a company doesn't hit its target,
it runs the risk of being downgraded.
But the amount of time some Triple-B companies
have been given to meet these deadlines
has left some investors scratching their heads.
In 2018, Moody's said the Triple-B rating for Campbell Soup
was too high after it acquired a snack company
for $6.1 billion.
It estimated the company's leverage
had topped five times earnings.
Moody's gave the company until July 2020
to get it below four times earnings.
Ratings firms predicted Newell brands
which makes Elmer's Glue
would reduce its debt load for multiple years.
When Triple-B rated Newell
announced a multi-billion dollar acquisition
in December 2015,
S&P and Moody's analysts predicted its leverage ratio
would fall from more than five times
to under four times earnings by December 2017.
They continued to make similar predictions
that Newell would be a safe bet in 2016, 2017, and 2018.
But these 2018 calculations failed to account
for lost earnings from businesses Newell had sold.
At the time, Moody's said its calculation
was just a different way of measuring leverage.
An S&P spokesman told the Wall Street Journal that,
"Our analysis speaks for itself."
Updated calculations from both firms
showed Newell's debt was above five times earnings
at the end of 2018 revealing that the bonds
had been a potentially riskier investment
than what the ratings firms indicated.
S&P downgraded Newell's debt to junk status in November.
Moody's still rates it Triple-B.
But investors still remain skeptical.
More than $100 billion in investment-grade debt
is trading with yields that are usually associated
with junk debt.
These bonds are rated Triple-B minus,
the absolute lowest rung of investment-grade debt.
The Federal Reserve raised the alarm
about the volume of outstanding Triple-B debt in November
saying that widespread downgrades
during an economic slowdown
could disrupt the liquidity of the corporate bond market
potentially leaving investors in a sticky situation.
(whimsical music)