The high cost of borrowing is expected to lead to a rise in corporate defaults as interest rates remain at elevated levels. Over the past two decades, American companies have taken advantage of favorable interest rates to borrow extensively through loans and bond issuances. However, with eleven consecutive interest rate hikes by the Federal Reserve in a short span of time, many leveraged companies are now facing increased borrowing costs.
Even large international companies are feeling the impact, finding it costly to borrow abroad due to high interest rates in regions like the United Kingdom and European Union. The effects of these high interest rates are becoming evident in the form of troubled loans and bonds, leading to a surge in corporate default rates.
According to data from Fitch Ratings, the total value of Top Market Concern Bonds has risen to $65.5 billion as of January 24, 2024, marking a significant 42% increase from the previous month. Healthcare companies, in particular, are under pressure due to high interest rates and labor shortages, with over 80 healthcare companies filing for bankruptcy in 2023, the highest level in five years.
The default rate for leveraged loans has climbed to 3.4% as of mid-January 2024, the second-highest level since 2007. Travelport, LLC, a travel and entertainment company, recorded the largest leveraged loan default in recent months with $4.3 billion outstanding. S&P forecasts that default rates for below investment grade bonds could reach 4.75% by the end of 2024.
Financial institutions are advised to bolster their capital and liquidity, especially if exposed to sectors like commercial real estate, healthcare, and telecommunications. Banks should consider increasing reserves for potential rises in non-performing loans, while regulators must ensure institutions are adequately hedged against credit risks. With corporate defaults on the rise, both financial institutions and regulators need to act swiftly to prepare for the challenges ahead.
