The question we seek to answer is whether similar risks exist in Europe. Our conclusion is – very out of character for our profession – overleveraged corporates should not be a concern here. Quite the opposite: the corporate sector has been borrowing very little when adjusted for price levels.
Corporates have shifted out of bank loans into bonds, which means these markets look buoyant – issuance records are being broken. We argue this is driven by higher price levels, refinancing of previous issuance, and a change in composition of corporate debt.
In addition to this, European corporates hold more cash, strengthening their balance sheets further. Households, meanwhile, have very high savings ratios. So, investors are chasing relatively low debt issuance. Only very recently has the monetary cycle begun to turn and European corporate loan growth started to pick up. It is still below nominal GDP growth, however.
As such, we believe the credit cycle in Europe will enter a ‘re-leveraging’ phase next year (read our Credit Outlook), with corporates taking on more debt as investment growth gradually picks up. Should credit spreads widen significantly as a result of concerns in the US, European credit markets are likely to experience a less pronounced widening. The underlying foundation of the market should be enough to avoid a severe and longer-lasting credit crunch.
Let us take you through the facts and our thinking.