The first quarter of 2017 was anything but uneventful. Last quarter, we observed the credit risk impact of the surprising results of the U.S. presidential election, ongoing geopolitical developments, and the shortterm impact of President Trump’s tweets on individual companies. So far, 2017 has provided further examples of how Trump and his policies can shape company-specific, as well as global, risk.
Regionally, this “Trump Effect” is most evident in the reversal of fortune between Latin America and North America. In the fourth quarter of 2016, we observed a measurable decrease in North American market-perceived credit risk, which largely subsided under the prospect of Trump’s pro-business policies. Since January 2017, this trend reversed as North America’s credit risk increased 40% (75% in March alone), as markets recognized that the U.S. political divide might prevent the Trump administration’s swift and farreaching proposals.
In contrast, Latin America displayed a sizable increase in risk post-U.S. election as a result of Trump’s stance towards NAFTA. Subsequently, Latin American perceived risk has decreased. However, in a global environment plagued by uncertainty, the balance of risks is not necessarily tilted in Latin America’s favor. Argentina and El Salvador are slipping into recessions, while a recession continues in Brazil. Venezuela has been hardest hit recently as it faces an economic, humanitarian, and political crisis.
This quarter, the conversation also pivoted back to Europe with a major focus on political risk as elections and the rise of populism dominated the headlines, and Brexit was officially set into motion through the triggering of Article 50. Nevertheless, despite considerable uncertainty, European risk has remained largely stable over the quarter.
A major European exception is France. The April 23rd first-round presidential election saw two unlikely candidates proceed to the next round. Surprisingly, neither candidate belongs to one of the two political parties in power since De Gaulle's time. Marine Le Pen, a populist candidate, could put the future of the EU in jeopardy. While, Macron, a centrist political newcomer, aims to implement structural reforms while maintaining strong EU ties. Though current polls suggest that Macron is the clear front-runner, his victory is hardly a given. Markets responded negatively to the increased political risk but showed positive signs after the first-round results were announced.
From a sector point of view, Energy continues to show weakness during oil price volatility, and the Energy Sector's balance sheets continue to display increased risk. The fundamentals in Financials have improved, but the market has recently discounted their potential with increasing risk over the last month of the quarter, perhaps attributable to the markets discounting the potential for deregulation. In fact, the IMF stated on April 19, 2017: “Corporate credit fundamentals [in the U.S.] have started to weaken, creating conditions that have historically preceded a credit cycle downturn.”
The rated universe (i.e., issuers rated by S&P Global Ratings) is also showing strength with the upgrade/downgrade ratio nearly reaching parity, which is a large improvement from a year ago. The Ratings outlook has also improved, which bodes well for these firms.
Finally, we are pleased to introduce additional insight in our Quarterly Default Review section. In previous issues, we examined the top ten defaults and bankruptcies from the most recent quarter, with a focus on a select entity and its path to financial distress. We now use loss given default estimates from the LossStats™ model to supplement this analysis. This is particularly valuable for those exposed to loans, bonds, or other financing.