Global Corporate Debt Is Shrinking

International | Jul 13 2022

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Strong profits have driven a decline in global corporate debt for the first year since 2015, leaving opportunity for investors in the bond market as bond prices decline.

-Global corporate debt declined -1.9% in FY22, while domestic corporate debt declined -21.5%
-Record profits provided opportunity to minimise debt, with energy and mining major beneficiaries
-Opportunity exists for investors in the bond market with prices declining

By Danielle Austin

Strong operating profits in the last year have provided companies an opportunity to pay down debt, with global corporate debt declining -1.9% to US$8.15trn in the last twelve months as a result. Analysis from Janus Henderson highlights this marks the first decline in global corporate debt since 2015, with the trend expected to continue.

Global corporate profits rose 51.4% to a record $3.36trn, buoyed by demand pent up during pandemic restrictions, but Janus Henderson believes there is still opportunity for further debt reduction in the short term, anticipating companies to operate more conservatively in the year ahead amid higher costs and a slowing economy.

The analysts predict global corporate debt will fall an additional -3.3%, or -US$270bn, bringing debt to US$7.9trn by this time next year.

The sizeable cash flow generated in the last year provided fodder for not only debt reduction, but also capital expenditure, record dividends and share buy backs. During the year 51% of companies globally reduced debt, with the remaining 49% increasing debt, but the Janus Henderson analysts highlight debt increases were often to fund buyback programs or acquisitions.

Globally, elevated energy prices and a strong year-on-year US$412bn operating profit rebound saw the energy sector deliver the largest net debt decline. The strong year allowed the sector to achieve a -US$155bn borrowings decline, wiping out the additional debt taken on during FY20 and FY21 and closing out the year with the sector’s lowest leverage since 2014.

Mining sector drives home domestic debt reduction

Closer to home, declines in domestic corporate debt in the last year significantly exceeded the global average. Driven by a cash flow injection from the mining sector, domestic corporate debt declined to its lowest level in eight years, dropping -21.5% in the last twelve months.

While mining company BHP Group ((BHP)) singularly accounted for two-fifths of national corporate debt reduction, 80% of Australian companies included in the Janus Henderson Corporate Debt Index repaid debt during the year.

Globally, elevated cash flows in the year past allowed the mining sector to reduce its debt almost -25% year-on-year given record cash positions across the industry.

Opportunity for investors in bond yields

For investors, movements in corporate debt levels offer opportunity in bond markets. The Janus Henderson analysts note the cost of new bonds have increased to price in rising inflation and expected further rate hikes ahead, and alongside fast rising corporate bond yields have driven companies to respond by redeeming bonds.

This has seen the value of bonds decline -US$115bn since May 2021, driving better prices that offer opportunity for investors. For investors, the Janus Henderson analysts prefer lower risk options in defensive sectors, taking into consideration the significant headwinds facing most sectors at the moment, but note the importance of being selective given different companies within the same sector face different challenges.

The analysts highlight while both the energy and mining sectors were able to drive down debt in the year past, utilities reported a large increase in debt levels amid pressures in the energy market and necessary investment to support an ongoing energy transition.

With the cash sector remaining cash generative, Janus Henderson expects oil and gas producers will be able to further reduce debt levels, while slower economic growth will likely see caution dominate in other sectors.

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