Restructuring Activity Is Poised to Increase — Recession or Not

Corporate borrowing has been steadily increasing for nearly a decade in both absolute and relative terms, as low interest rates and borrower-friendly terms combined with a steady economy have been too tempting to pass up. Consequently, credit quality has been deteriorating for several years as companies choose to live with more leverage. For speculative-grade borrowers, these decisions bring added risk, as higher leverage leaves less financial flexibility for unforeseen circumstances—such as a pandemic virus.

The proportion of speculative-grade borrowers rated B- or worse, often referred to as “deep junk” is currently at an all-time high, leaving more companies than ever highly exposed to the business consequences and financial impact attendant with unplanned events or an economic downturn.

"In a year when most major stock market indexes rallied 25 percent or more, and market yields on most junk bonds plunged by 200 basis points, restructuring activity in 2019 had its second-strongest year of the decade. Historically speaking, that is a highly unusual pairing of events. Nobody would say that 2019 was a banner year for restructurings, but it was a surprisingly robust showing considering the stellar performance of global financial markets and aggressive efforts by the Federal Reserve to prolong the economic recovery.

Large bankruptcy filings increased by 21 percent last year, while S&P-rated debt defaults increased by 43 percent over 2018 — with annual totals far exceeding those in a comparable period in the mid-2000s, or in the early post-recession years when the recovery was still wobbly (see Exhibit 1). This recent uptick is no fluke or anomaly; it is very likely to be the base-case scenario going forward, notwithstanding continued economic growth."