Gluskin Sheff’s David Rosenberg thinks that as U.S. household balance sheets improve, U.S. corporate balance sheets are emerging as a primary risk.
In the new Breakfast with Dave report, Rosenberg writes that there is no real deleveraging in the corporate sector. He points out two key things.
First, we’re seeing “an environment of 0% productivity growth.” Second, “we just crossed the one trillion dollar mark for the year in gross investment-grade corporate bon issuance.” The Q3 Fed-Flows-of-Funds data showed that the non-financial corporate sector was responsible for over $US800 billion in credit market debt over the past year, which is close to the cycle peak six years ago.
The real question is where is all this money going. Rosenberg points out that it isn’t being channeled towards productive investment like improving ageing infrastructure or productivity growth:
“What is the case, is that the debt boom has gone towards buying back stock, inflating EPS along the way and making the equity market appear more attractive than if we were to simply rely on the dollar value of net income in the valuation process. The Flow-of-Funds data show that the volume of equity that has been retired in the past year, in the aggregate corporate sector, has exceeded $US360 billion. As such, the debt/equity ratio on a historical basis has risen on each of the past two quarters to 66.9% in Q3 from 66.6% in Q2 and 66.2% in Q1 — to stand at the highest level since the third quarter of 2009.
Buying back shares is not a very productive use of cash if you ask me (though to be sure, they are a very accretive one).
Now clearly not all debt is bad, but when it’s spent un-productively, then you start to worry. If the money had gone towards productive investment then it’s a non-issue really. Bit as best i can tell it hasn’t… the capital stock keeps getting older, infrastructure keeps getting older. So it is not obvious to me that this debt binge in money is being productively employed.”
Rosenberg wonders what would happen to all the leverage if inflation were to climb, but he says that is a 2015 story.
For now he wants investors to know that the rise in corporate debt but the lack of increase in the business/investment GDP ratio or productivity growth is a “disconcerting risk.”