A strong economy and global stock market surge may suggest market
euphoria. However, our Head of Corporate Credit Research explains
why the corporate sector caution is, in fact, a good sign.
----- Transcript -----
Welcome to Thoughts on the Market. I'm Andrew Sheets, head of
Corporate Credit Research at Morgan Stanley. Along with my
colleagues bringing you a variety of perspectives, today I'll be
talking about the surprising lack of confidence in corporate
boardrooms, and why it could extend the cycle.
It's Thursday, June 13th at 2pm in London.
“Buy low, sell high.” That age-old advice is rooted in the idea
that investors should try to buy when others are fearful and sell
when others are euphoric. The high in prices, after all, should
occur when people are as positive, and things are as good as they
can possibly be.
At the moment, there is plenty of focus on this idea that the
market pendulum may have swung too far towards excessive
positivity. The economy is strong, with US growth tracking above
2 per cent, inflation moderating and the unemployment rate still
near a 60 year low. US and global stock markets are near all-time
highs. And many quantitative measures of investor optimism are
elevated, whether it's the low levels of expected volatility,
polls of investor outlooks or ownership of equity futures.
But we think there is one missing piece of this story, with
relevance for credit and beyond. While investors are optimistic,
corporate boardrooms remain much more restrained. And that
caution could help extend the cycle.
One way to measure corporate optimism is whether or not companies
are adding debt; a company is more likely to borrow when it feels
better about the future. Well, as of the first quarter of 2024,
the growth in US non-financial corporate borrowing was at a
10-year low. And among lower rated borrowers, the issuance of
high yield bonds and loans remains dominated by borrowing to
repay or refinance existing debt – the most conservative type of
issuance that you can get.
Another way to measure corporate optimism is Mergers &
Acquisitions, or M&A, as it really takes confidence in the
future to acquire another company. Well, global M&A volumes
in 2023 were the lowest, adjusted for the size of the economy in
over 30 years. While this has picked up a bit, and we do think
M&A recovers significantly over the next two years, it’s
currently still very low.
On the surface, there are plenty of signs that investors are
entering the summer optimistic. But the corporate sector remains
surprisingly restrained, especially given that solid economic
data, record profits and record highs in the stock market. We’d
further note that the Tech sector, where there is more optimism
and much more investment spending, generally isn’t borrowing to
fund this, and also enjoys unusually strong balance sheets.
All of this matters because it’s been high levels of corporate
optimism that have often been very bad for credit, as it’s
excessive optimism that often leads to excessive risk taking,
hubris, and an eventual payback that is bad for lenders. The lack
of optimism, at the moment, is a good sign, and one of several
reasons why we think spreads can remain tight, and the credit
cycle has further to run.
Thanks for listening. If you enjoy the show, please leave us a
review wherever you listen and share Thoughts on the Market with
a friend or colleague today.
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