What’s going on here?
US companies may not realize the expected net benefits from the upcoming interest interest rate reduction cycle, contrary to popular belief.
What does this mean?
During the Fed’s rate hikes from March 2022 to July 2023, corporate America’s net interest payments actually fell. Companies borrowed at fixed rates and earned more from cash reserves boosted by the pandemic. An IMF staff report shows that U.S. corporate net interest payments as a share of GDP halved during this tightening cycle. Analysts at Ned Davis Research found that net interest payments fell by $118 billion while cash flow rose by over $450 billion since March 2022. The technology and manufacturing sectors, particularly large technology companies with high cash reserves, benefited the most. This cycle deviated from the past 50 years, when higher policy rates typically increased corporate net interest payments.
Why should I care?
For markets: Navigating new dynamics.
Borrowing by U.S. companies peaked this year, with 17 companies issuing nearly $32 billion in debt, reflecting strong investor confidence despite the market situation. Volatility. As the Fed eases policy, companies are expected to face higher net interest expenses as their cash reserves shrink and they refinance pre-pandemic debt at higher interest rates. Analysts at JP Morgan expect net interest expenses to be “significantly higher” going forward.
The overall picture: Traditional rules no longer apply.
Traditional economic indicators have become less reliable since the pandemic. The relationship between interest rate changes and the financial health of companies is another area where old rules may not apply. Net interest payments by American companies as a share of cash flow are at their lowest since 1957, and net interest payments in many sectors have fallen significantly as a percentage of GDP. Smaller companies with floating-rate debt could benefit more from falling rates, potentially balancing the economy, says Joe Kalish, chief global finance strategist at Ned Davis Research.
