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Corporate debt spike heralds earnings recession, says S&P Ratings

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Corporate debt spike heralds earnings recession, says S&P Ratings

S&P Global Ratings is predicting a possible earnings and economic recession due to weakening corporate profit growth, as corporate debt growth climbs and earnings slow.

Corporate debt is rising faster than earnings for nonfinancial companies this year, driving up corporate leverage, Ratings said. In September, the rating agency said the risk of a U.S. recession in the next 12 months stood at 30% to 35%, up from a range of 25% to 30% in the previous quarter.

Debt and earnings expanded simultaneously between 2011 and 2017, but earnings growth in 2019 slowed while corporate debt spiked, according to S&P Global Ratings' analysis of debt trends for 20,071 nonfinancial companies.

Ratings predicts faster debt growth with respect to earnings in 2019 for its rated global portfolio. Default risk in the unrated profile is higher than that of the rated category, as the unrated sample's gross debt of $30 trillion is equivalent to two-fifths of the predicted total global nonfinancial corporate debt of $73 trillion.

"While low interest rates are keeping speculative-grade default rates low (at 2.1% in first-half 2019), high debt levels and slowing economies portend a future spike," said Terry Chan, credit analyst at S&P Global Ratings.

The three most vulnerable sectors are automotive, consumer goods and retail. Car sales have been declining for almost a year, and prospects for a recovery are discouraging, while constrained liquidity and unsustainable capital structures plague the consumer goods and retail sectors.

The report highlighted the rise in U.S. corporate issues rated 'B-' and below, a trend that has in the past predicted a spike in default rates. China's firms have the largest absolute debt, Ratings said, warning that the ongoing economic slowdown poses a risk to China's corporate leverage.