The corporate debt bubble may be popping!

1. Corporate debt appears to be one of the excesses of this credit cycle; companies have borrowed a record amount to buy back stock, make acquisitions or to fund operations.

2. At this point of the credit/economic cycle companies should be paying down debt and raising cash for a rainy day.

3. Financial engineering appears rampant as many companies consistently report non GAAP earnings. Q1/16 General Electric reported 21c in earnings and on the next line of the press release pointed out GAAP earnings were 2c.

4. Corporate profits have peaked and are now falling. It is not just energy, 9 out of 10 S&P sectors have lower consensus estimates today than January 1. S&P 500 estimated earnings for Q1/16 have been slashed from $29 down to $26 during Q1/16. GDP estimates have been slashed also.

5. Corporate borrowers have defaulted on $50B so far this year. 6. 51 companies were downgraded from investment grade to junk in Q1/16. $265B in corporate

debt are now potential “falling angels” up from $105B in Q1/15. 7. Junk borrowings are down 57% year over year; credit cycles need to expand to continue.

Once they start contracting they tend to pop. 8. A recession would accelerate the pressure on corporate profits and leave many companies

financially strapped as we just witnessed in the energy industry.

Non-financial corporate debt has almost doubled from $3T to $6T in this credit cycle.

Total business sales have been falling for 18 months, many

companies have used debt to buy back stock to keep earnings growing as revenues are falling.

Corporate profits (the ability to repay that debt) are falling. If the economy has entered

a recession, profits will continue to fall. Corporate profits as a share of GDP are at

record levels, this could change.

Many of the best performing companies have ruined their balance sheets in this bull market; an economic or corporate

downturn will leave all of the risk on the current shareholders.

Dollar Tree took on substantial debt to acquire Family Dollar; real retail sales

were down in Q1/16. Dollar Tree has the worst same store sales in the industry!

If the U. S. entered a recession International Tool Works would

enter it with $7.4B in debt; a prudent company would have paid down debt

during the expansion!

Kimberly Clark bought back 120MM shares of stock, but their quick ratio

is down to .85!

Auto parts stores have been a huge winner in this cycle; competition can be found on every main street in America.

Predictably, industry pricing pressure has intensified recently.

Priceline and Expedia have both taken on significant debt. They are now facing real competition

from Airbnb!

The semiconductor industry is not an industry to take on debt during an

economic expansion, especially if your largest customer is Apple!

Many REIT’s have been borrowing money to buy properties at historically high valuations and low cap rates. An

economic downturn would not be good for this industry!

Many oil & gas stocks took on substantial debt to build their business around a high capital spending and rapidly depleting

technology.

07:47 Next corporate default wave has the potential for greater pain – Bloomberg

• Bloomberg reports that losses on bonds from defaulted companies are likely to be higher than in previous cycles as US issuers have more debt relative to their assets, ac-cording to research from BofA Merrill Lynch. It adds that junk-rated companies have debt equal to ~48% of their assets, up 7.5 percentage points in the last seven years.

• The article notes that leverage levels have been rising as more companies use borrow-ings to refinance existing liabilities and buy back shares, among other steps. It adds that capital expenditures, which may have a positive impact on asset values, have been relatively low during this cycle.

• It also observes that Moody’s forecasts that the junk default rate, currently at ~4%, could rise to 5.05% by the end of the year in its best-case scenario. It adds that the worst-case Moody’s scenario sees a default rate as high as 14.9%.

• CNBC reports that S&P’s analysis concurs, looking for a base case speculative-grade default rate of 3.9% by year’s end. It adds that a pessimistic but plausible case could be made for a 5.2% default rate, equating to about 70 US defaults this year.

07:42 US debt capital market issuance sees slowest Q1 since 2009 -WSJ

• The WSJ cites data from Dealogic, which shows companies issued $725B of debt in Q1 - the slowest start to a year since 2009. At this point last year, companies had borrowed $830B in the debt markets.

• It notes most of the drop has been due to high-yield borrowers. Junk-rated companies only borrowed $41.5B in Q1, down 57% y/y.

• On the other hand, investment-grade borrowers sold $363.7B of debt during the quarter, a shade behind last year’s record pace of $366.4B.

• StreetAccount notes the WSJ talked about the bifurcation of the debt market in early March, pointing out lower-rated firms are struggling to sell debt while healthy firms see robust issuance.

April 21 – Financial Times (Joel Lewin): “The debt doghouse is filling up fast. More companies were downgraded to junk status by Moody’s in the first three months of the year than in the whole of 2015. In total, 51 companies were pushed into junk territory, up from eight in the fourth quarter and 45 in 2015. The sharp increase in number of so-called ‘fall-en angels’ — as those companies stripped of their investment grade status are known — comes as focus intensifies on whether the current credit cycle, which began after the 2008-2009 financial crisis, is turning… Moody’s also blamed the travails of the commodities market on the significant swelling in the number of ‘potential angels’, or those companies at risk of being cut to junk. The increase in the number pushed the amount of debt in ‘potential angel’ camp to $265bn by the end of March. That is up from just $234bn at the end of the year and $105bn at the end of the first quarter in 2015.”

April 21 – Bloomberg (Chris Martin): “SunEdison Inc.’s liabilities of $16.1 billion makes the world’s biggest renewable energy developer the biggest bankruptcy of 2016. Here’s a review of the almost $35 billion in previous U.S. restructurings this year… Peabody Energy, $10.1 billion… Arch Coal Inc., U.S. mining company, $6.45 billion…Verso Corp., paper prod-ucts company, $3.88 billion…Energy XXI Ltd., oil producer, $3.62 billion…Republic Airways Holdings Inc., airline, $2.97 billion… Paragon Offshore Plc, oil services provider, $2.96 billion… RCS Capital Corp., financial services, $1.39 billion… SH-130 Concession Co., highway operator, $1.27 billion… Noranda Aluminum Holding Corp., mining company, $1.12 billion… Southcross Holdings LP, natural gas processor, $1.07 billion…”

April 17 – Financial Times (Eric Platt): “Corporate borrowers across the world have defaulted on $50bn of debt so far this year as the number of delinquent companies accelerates at its fastest pace since the US emerged from the financial crisis in 2009. The number of defaults rose by five in the past week, including the first European company of the year, accord-ing to Standard & Poor’s. Forty-six companies have defaulted since the year began.”