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Moody's Weekly Market Outlook Summary

Core Content

Moody's Weekly Market Outlook provides an analysis of credit markets, focusing on corporate credit trends, rating changes, and economic indicators across the US, Europe, and Asia-Pacific. The report highlights the impact of special events, such as mergers and acquisitions (M&A), on credit ratings and the role of equity valuations in influencing corporate financial behavior.

Main Views

Credit Market Trends

• Corporate Credit Cycle: The US corporate credit market is experiencing an unusual upturn since WWII, characterized by narrowing credit spreads and declining default probabilities, despite increased leverage.
• Special Events Impact: M&A activities have shifted from negatively affecting credit ratings to providing a net benefit, especially for high-yield bonds.
• Rating Changes:
  • In 2017's third quarter, M&A contributed to 6 investment-grade upgrades and 23 high-yield upgrades, alongside 9 investment-grade and 23 high-yield downgrades.
  • The net effect of M&A on US credit rating revisions turned positive in 2017, a rare occurrence in the eighth year of an upturn.

Equity Valuation and Financial Engineering

• Equity Market Influence: A richly valued equity market reduces the incentive for corporations to engage in equity buybacks or dividends that might trigger credit downgrades.
• Net Stock Buybacks: The moving yearlong sum of nonfinancial-corporate net stock buybacks fell from $616 billion in Q3-2016 to $472 billion in Q2-2017, indicating a shift in corporate behavior.
• Shareholder Compensation: The relative frequency of shareholder compensation downgrades has decreased significantly, from 81.3% in June 2016 to 47.0% in September 2017.

Key Information

Credit Spreads and Defaults

• Investment Grade Spreads: The spread for investment-grade bonds is expected to exceed 105 bp by year-end 2017, with a potential increase to 400 bp.
• High Yield Spreads: The high-yield bond spread has narrowed from 477 bp in Q4-2016 to 383 bp in Q3-2017, and is projected to reach 356 bp in October 2017, the narrowest since July 2014.
• Default Rates: The US HY default rate is forecast to average 2.3% during 2018's third quarter, down from 3.3% in September 2017.

Bond Issuance

• Investment Grade Issuance: US$-denominated IG bond issuance reached a new peak of $1.491 trillion in 2017, up 5.6% from 2016.
• High Yield Issuance: US$-priced high-yield bond issuance increased by 27.3% to $434 billion in 2017, slightly below the 2014 record of $435 billion.

Economic Outlook

US

• Retail Sales: Forecast to rise 2.1% in September, the largest gain since March 2010, but affected by hurricane-related disruptions.
• Consumer Price Index (CPI): Expected to rise 0.7% in September, with a core increase of 0.2%. Gasoline prices are a key driver.
• Unemployment Rate: Forecast to remain at 4.4% in September, with year-over-year growth expected to stay around 2.2%.
• Fed Policy: Uncertainty remains around the Fed's leadership and future policy direction, with potential shifts depending on the new chair.
• Jobless Claims: Expected to fall to 250,000 in October, but still above pre-hurricane levels due to ongoing disruptions.

Europe

• Industrial Production: UK industrial production is expected to remain steady, with a yearly growth rate of 0.9%, below the past-year average of 1.2%.
• Manufacturing Output: Growth is expected to be weaker than anticipated, with transport equipment production likely to reverse July's gains.
• Brexit Impact: Uncertainty from Brexit continues to dampen investment in export capacity, affecting the UK's industrial performance.

Figures and Data Highlights

• Figure 1: High-yield bond spread averaged 356 bp in October 2017, the narrowest since July 2014.
• Figure 2: M&A-linked rating changes show a 56% upgrade ratio for high-yield and 41% for investment-grade since 1985.
• Figure 3: M&A activity in 2017 contributed to a 53% increase in upgrades and a -37% drop in downgrades for high-yield ratings.
• Figure 4: Shareholder compensation downgrades decreased to 47.0% of total rating changes in September 2017, down from 81.3% in June 2016.

Conclusion

The report underscores the evolving dynamics of credit markets, emphasizing the positive impact of M&A on ratings and the moderating effect of a strong equity market on financial engineering activities. It also highlights the ongoing challenges posed by economic disruptions such as hurricanes and geopolitical uncertainty, which continue to influence market behavior and data accuracy.