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Moody's Weekly Market Outlook Summary

Core Content

Moody's Weekly Market Outlook provides a comprehensive analysis of current and future trends in credit markets, focusing on corporate tax reform, bond issuance, economic forecasts, and market data. The report is authored by a team of analysts and economists, including John Lonski, Ben Garber, and others, and includes insights from both U.S. and international markets.

Main Points

Corporate Tax Reform and Leverage

• Impact of Tax Cuts: Analysts suggest that reducing the top corporate tax rate from 35% to 20% or 15% will likely slow the growth of corporate debt from nearly 5% to around 2% annually over the next decade.
• Historical Precedent: Despite previous tax cuts (from 46% in 1986 to 34% in 1988), corporate debt continued to grow rapidly, indicating that tax cuts may not significantly deter leverage.
• After-Tax Cost of Debt: If interest expense is no longer tax-deductible, the after-tax cost of debt will rise, especially for low-grade credits and during periods of market stress.
• Equity Price Impact: The removal of interest deductibility could increase the after-tax cost of capital, potentially leading to lower equity prices and reduced profitability.

Bond Issuance Trends

• Record Issuance: January 2017 saw the largest monthly total for USD corporate bond issuance, reaching $242 billion, with investment-grade issuance totaling $188 billion.
• High-Yield Issuance: High-yield bond issuance also rose, reaching $35 billion in January, with the lowest spread in recent years at 384 bp.
• Yankee Bonds: Non-U.S. firms issued $85 billion in dollar-denominated bonds in January, a third-largest monthly total. Financial firms and Chinese issuers were key participants.
• Future Outlook: Bond issuance is expected to continue growing, but potential changes in U.S. tax policy could slow this trend.

Market Data Highlights

• Credit Spreads: Investment-grade spreads are expected to exceed 120 bp by year-end 2017, while high-yield spreads may approach 450 bp.
• Default Rates: The U.S. high-yield default rate is forecasted to fall from 5.7% in December 2016 to around 3.9% by 2H 2017.
• Liquidity and Borrowing Costs: Low borrowing costs and favorable market conditions are supporting corporate borrowing, even as tax reform considerations loom.

The Week Ahead – Key Economic Reports

United States

• Employment Report (Jan): Expected to show 175,000 nonfarm payrolls added and 4.7% unemployment rate.
• ISM Non-Manufacturing Index (Jan): Forecasted at 57.0, indicating strong service sector demand.
• Factory Orders (Dec): Projected to rise by 0.7% q/q, with core capital goods orders up 4.7% annually.
• Trade Balance (Dec): Expected to show a deficit of $45.0 billion, with import prices rising due to dollar strength.
• University of Michigan Consumer Sentiment (Feb): Preliminary forecast at 97.9, likely a slight decline from the 13-year high in January.

Europe

• Euro Zone GDP (Q4): Expected to grow by 0.9% q/q, with strong performance in Germany and France.
• Euro Zone Monetary Aggregates (Dec): M3 money supply growth is forecasted at 4.7% y/y, slightly slower than November.
• Euro Zone Unemployment (Dec): Likely to fall to 9.7%, showing continued improvement in the labor market.
• France GDP (Q4): Projected to increase by 0.4% q/q, driven by household consumption and improved labor conditions.
• France Household Consumption (Dec): Expected to rise slightly m/m, with improved retail PMI and employment growth.

Key Information

• Corporate Tax Reform: While tax cuts may increase after-tax income, they may not significantly reduce corporate leverage due to the relatively low current borrowing costs.
• Bond Issuance: A record $242 billion in USD corporate bond issuance in January 2017, with a strong focus on investment-grade and high-yield debt.
• Yankee Bonds: Financial firms and Chinese issuers were major contributors to dollar bond issuance, reflecting regulatory needs and favorable market conditions.
• Market Outlook: The report highlights the importance of liquidity, yield spreads, and benchmark borrowing costs in shaping corporate borrowing behavior.
• Economic Indicators: The report previews key economic data from the U.S., Europe, and Asia-Pacific, emphasizing the potential impact of tax policy and market dynamics on growth and stability.

Conclusion

Moody's Weekly Market Outlook underscores the resilience of corporate borrowing in the face of tax reform, noting that while lower tax rates may improve after-tax income, they may not substantially reduce leverage. The report also highlights the current record levels of bond issuance, the role of financial firms and Chinese issuers in the dollar bond market, and the expected continued economic expansion in the U.S. and Europe, with potential policy shifts affecting future trends.