High interest rate pressure is evident, and the default rate on U.S. junk bonds has risen to its fastest pace in four years

High borrowing costs increase repayment pressure on enterprises, and the default rate in the U.S. junk loan market has soared. A report recently released by the rating agency Moody's shows that in the 12 months ending in October, the global leveraged loan default rate (mostly in the U.S.) rose to 7.2%, the highest level since the end of 2020, primarily due to heavily indebted companies continuing to be harmed by the high interest rate environment. After the outbreak of the COVID-19 pandemic, the Federal Reserve urgently initiated interest rate cuts, bringing borrowing costs down to near-zero levels, making the floating rates of leveraged loans particularly attractive. Some "junk-rated" companies took advantage of these cheap funds to issue bonds during the pandemic, but as interest rates remain high, they are facing the dilemma of debt default and bankruptcy protection. David Mechlin, a portfolio manager for credit at UBS Asset Management, stated: “A large number of bonds were issued in a low-interest-rate environment, and the pressure from high rates is gradually becoming apparent over time.” “This default trend may continue until 2025.” Data shows that many companies facing default have turned to distressed asset exchanges (such as debt-to-equity swaps and discounted debt buybacks) to avoid bankruptcy. Ruth Yang, head of private market analysis at S&P Global Ratings, stated that such transactions accounted for more than half of this year's default transactions, setting a historical high. Changes in the Structure of the Leveraged Loan Market Increase Default Risk Some believe that the higher default rate is a result of changes in the leveraged loan market in recent years. Mike Scott, senior high-yield fund manager at Invesco, believes that many new borrowers come from industries such as healthcare and software, whose corporate assets are relatively light, meaning that in the event of a default, investors may only be able to recover a small portion of their investment: “The leveraged loan market has experienced a decade of unlimited growth.” Despite the rising default rate, the credit spread on junk bonds remains at historically low levels. Data from Bank of America shows that this spread is at its lowest level since the 2007 financial crisis, indicating that investor demand for junk bonds remains very strong. Some fund managers analyze that considering the Federal Reserve is currently gradually lowering the benchmark interest rate, the surge in default rates will be temporary. Brian Barnhurst, global head of credit research at PGIM, stated that as the Federal Reserve begins its rate-cutting cycle, the reduction in borrowing costs should provide comfort to companies that previously issued junk bonds: “We have not seen any particular asset class's default rate rise.” “To be honest, the relationship between the default rates of leveraged loans and high-yield bonds may have diverged by the end of 2023 and is no longer as synchronized.” Risk Warning and Disclaimer The market has risks, and investment requires caution. This article does not constitute personal investment advice and does not take into account the specific investment objectives, financial situation, or needs of individual users. Users should consider whether any opinions, views, or conclusions in this article are suitable for their specific circumstances. Investing based on this is at your own risk