"This Doesn't End Well": SocGen Explains Why US Balance Sheets Are Far Worse Than They Appear

Tyler Durden's picture

Reverting to one of his favorite topics - namely how the application of a statistical average of a sharply bimodal sample tends to muddle the resulting signal, something Ray Dalio expounded on as recently as last month- on Monday morning, SocGen's Andrew Lapthorne explains not only why the true story of US corporate balance sheets is far worse than the average data makes it appears, but also why "US balance sheet performance is increasingly polarized".

As the SocGen strategist writes, "we have been highlighting for some time now the risks associated with highly leveraged US companies, particularly among the smaller capitalisation names. Our message has been clear; US corporate leverage is abnormally high for this stage in the cycle and a handful of cash-rich mega caps are masking significant problems elsewhere."

To be sure, the market has noticed this growing balance sheet chasm, and as a result aversion to highly leveraged companies has become increasingly visible:

"over the last few weeks the beta of bad balance to good balance sheet companies has been negative. Or to put it more simply, one group has been going up whilst the other has been going down. For those still holding the weak companies, the relative performance consequence is painful, leading to further selling and further polarisation."

To be fair, Lapthorne picks up on a point that was brought up by the IMF back in April, when it not only warned that over 20% of US corporations are at risk of default should rates rise even modestly,  but that the generous use of an average distribution when instead median is more appropriate, is masking some substantial problems below the surface, including the risks to US corporate from rising interest costs and possibly a reduction in
interest cost tax deductibility.

Putting this in perspective, Lapthorne calculates that while on average interest cost as a % of EBIT remains very healthy (as you would expect with record low interest rates) "once you peel away the biggest and strongest US companies, the picture is entirely different." As shown in the chart below, and as Lapthorne notes, "interest coverage for the smallest 50% of US companies is near record lows, at a time when interest costs are extremely depressed and when profits are at peak."

As Lapthorne concludes, "It is difficult to envisage a scenario in which this ends well."

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YUNOSELL's picture

I trust the FED can unwind any Ponzi scheme to a soft landing, as long as they do it slow enough

Arnold's picture

I guess this was news to somebody.

NotApplicable's picture

You mean that selling bonds while buying back shares has consequences?

 

Who knew?

RafterManFMJ's picture

Well as long as they C-Suite got to cash out, it’s all good. PRIVATIZE all gains, SOCIALIZE all losses.

Working pretty well across the board, is it not?

GUS100CORRINA's picture

"This Doesn't End Well": SocGen Explains Why US Balance Sheets Are Far Worse Than They Appear

My response: Over the past 7 years, I have observed how US Balance sheets have deteriorated with utter amazement. What do we see this morning? GE has to slash dividend by 50%!!! Virtually every American company has been engaged in debt leveraged buy backs to boost the stock price because of GREED.  

The kind of behavior described in headline is to be expected because we had a POTUS ("OBOZO") whose behavior and morals encouraged this type of irresponsible behavior.

Make no mistake, the POTUS office holders of the last 24 years have encouraged the kind of behavior that has the potential to SINK AMERICA into the ABYSS.

We will see if President TRUMP can right the ship. If he fails, financial armageddon will arrive on schedule.

We better be praying thst President TRUMP is successful. Did you hear that DEMOCRATS?

Richard640's picture

AT MARKET TOPS BULLISH ARGUMENTS ARE IRREFUTABLE----THEIR LOGIC IS "IRON CLAD

WERE THIS 2010--THE cavaierly pooh-poohing of  market cassandras would be appropriate

but this late in the game, the WOLF just may be at the door--there were plenty of bearish forecasts in 2006-7, and they finally turned out to be right--investors intelligence had HIGH BEARISH READINGS JUST BEFORE THE CRASH.

The end is nigh, brother, the end is nigh! 
World markets are like a pie crust stretched across the roof of a volcano!
Fu Manchu is about to pull the lever to the trap door!
Warbucks signals the trusty  Punjab to cut the cords of the rope bridge!
Grease the skids! Happy tobogganing!
Richard640's picture

AT MARKET TOPS BULLISH ARGUMENTS ARE IRREFUTABLE----THEIR LOGIC IS "IRON CLAD

WERE THIS 2010--THE cavaierly pooh-poohing of  market cassandras would be appropriate

but this late in the game, the WOLF just may be at the door--there were plenty of bearish forecasts in 2006-7, and they finally turned out to be right--investors intelligence had HIGH BEARISH READINGS JUST BEFORE THE CRASH.

The end is nigh, brother, the end is nigh! 
World markets are like a pie crust stretched across the roof of a volcano!
Fu Manchu is about to pull the lever to the trap door!
Warbucks signals the trusty  Punjab to cut the cords of the rope bridge!
Grease the skids! Happy tobogganing!
Sonder's picture

The Titanic hit the iceberg over a century ago, there's no amount of readjustment of the course that's going to fix the giant hole in the hull. May as well enjoy the ride while it lasts and raid the liquor cabinet. Don't forget to secure yourself a firearm and a lifeboat in the meantime.

Arnold's picture

Good points.
I suggest you add some sort of community service to your list, so that when you meet your maker before I do, you don't piss him off too much before I get there...

Sonder's picture

Of course, that and it helps to know other people with firearms when the ship inevitably goes under and you've got people trying to bludgeon you to death for your life vest. 

LawsofPhysics's picture

Indeed, unfortunately, only a relative few are benefitting from the ride.

Interesting times...

"Full Faith and Credit"

desirdavenir's picture

I prefer to secure cooperative neighbours. But I live in a city, where an individual having a firearm would just be a main target for the gangs in his neighbourhood.

venturen's picture

the last couple decades....all semblance of integrity and ethics have been removed. 

August's picture

Only from public life.

SeuMadruga's picture

hummm...those titanic analogies...the Fed is the band...now I grasp the "maestro" title awarded to Greenspan !

LawsofPhysics's picture

Does a balance sheet really matter if you are allowed to use "mark to fantasy" accounting?

 

LOL!!!  That is some funny shit right there!!!!

"Full Faith and Credit"

Ivan de beers's picture

American economy has cancer. Doctors (financial experts) gave it just months to live some 10 years ago yet it somehow marches on stronger. When will it succumb to the cancer and die is anybodys guess. Could be 1 hour or in 10 years time. We need to stop listening to the 'finanical guessing experts' and dive in to the markets and scoop up whatever we can. I know many people who missed out on Bitcoin because they believed the financial guessing experts that a crash was "IMMINENT" and went with Gold and Silver scrap metals. Dont live with regrets, this matket still has legs.

Winston Churchill's picture

You must walk around with blinkers on,maybe a nosebag as well.

Or the deteriation is more slow than you notice, a bit like going blind from cataracts.

silverer's picture

The US economy survives only through the determination and efforts of what's left of people with morals and a work ethic, and by its own inertia. The legs the market has that you claim will take it forward are nothing more than a Federal Reserve digital prosthesis. Just keep that in mind when you go diving.

desirdavenir's picture

There is a difference between predicting correctly and having the right set of rationales. Some Greek philosophers knew that the earth was round (with the diameter correctly computed from observation), but they  also thought that to maintain its balance, it must have a huge landmass on the southern Pole. The second argument is rubbish (no computation, no observation, no good rationale), yet the prediction turned out to be true. 

Re. the economy, we have the same problem. Sane peoples 10 years ago, including ZH, said that there was no way the economy could grow itself out of the shithole it was in. That was true, that is still true (though I also would argue that Europe fares slightly better, but probably not enough better to resist a real shock). What kept this prediction false is just that insane people were in charge, ready to sacrifice the future of their nations to postpone a few years the day of reckoning. The analysis error was the level of insanity the governments would be ready to go to, not the balance sheet analysis. As it was used to say on this site: the world is insolvent, not illiquid. Adding liquidity has hidden the insolvency for now by allowing everyone to continue to pay interests and postpone principal repayments, but only until it won't work anymore.

A max limit is the time the boomer generation that holds all the assets will retire from politics, in the mid-2030s. Given that generation's psychology, they will try to extract the maximum of resources from the economy as long as they can, that is as long as they are politically relevant. In this case, they will leave corporations riddled with debt on which annual payments takes all the annual EBITDA (so nothing left for investment and future growth), States that can only borrow the money they can print (no solvent creditor remaining worldwide), and households riddled with the debt accrued by buying a home or just trying to maintain a middle class status (no retirement fund, maxed out on credit card, and probably heloc loan to ensure that they really have no equity left). You know, no capital anymore in developped countries that have played this game.  A global Minsky moment. But it is much more likely to be sooner, as it is more likely that countries will approach that moment one after the other, and the weakest ones will fail first, making the fall much sooner for the next one. 

What matters now is what infrastructures (geopolitical, social, educational, commercial) will be left after that moment to restart the economy on a more sound basis. This is what will make the difference, not the current GDP numbers. 

ps:

- geopolitical: surrounded by friends or by foes ? (US, UK, NZ, Aus: strong, other countries: dangerous environment) -> depends on the position on the map

- social: how much social cohesion to not devolve into chaos ? (wild fluctuations from one country to another, from one year to another, but US generally poor on that one, china strongest, Europe better than average) -> blend of nationalism, pensions, and health care security

- educational: how many engineers available for innovation ? (US: poorest, Europe: Average, China: best) -> takes 20 years at least to correct, so the numbers for the Minsky moment are in

- commercial: common meaning of infrastructure (roads, networks, railways, airports, ports) that enable commerce (US: poorest, Europe: better than average, China best) -> but also depends on geopolitical

Ron_Mexico's picture

he who regrets last, regrets most

Giant Meteor's picture

" ... yet it somehow marches on stronger ..."

That is some funny funny shit ..

Winston Churchill's picture

Trouble is, he truly believes it.

silverer's picture

I guess it's time to nationalize the companies that are big and strong, so the government can milk them like cows, keep a lot for themselves personally, and teach the US folks some good recipes for cooking zoo animals.

3-fingered_chemist's picture

Hency why rates will never normalize. It doesn't matter who you are talking about. Government or corporations. Loaded up to the eyeballs with debt that can only be serviced at low interest rates without causing a huge shock to the system. The only portion of the economy that can manage higher interest rates is the plebs who are already paying 19 % on credit cards and 7.9 % on student loans. 

GreatUncle's picture

Rise lol ... rise?

We once had ordinary rates they looked really good, % return etc.

Then we evolved to ZIRP ... ha ha sheez.

That is a fall and the next fall should be NIRP.

Winston Churchill's picture

Has to be because its about net energy returns at its most fundamental.

rf80412's picture

The only portion of the economy that can manage higher interest rates is the plebs who are already paying 19 % on credit cards and 7.9 % on student loans.

Only because the plebs' demand for credit is inelastic.

GreatUncle's picture

The weakest would not be in that position if they had full adopted P2P economics. /S

GRDguy's picture

The "biggest and strongest" are simply those who are best at lyin' and stealin'. 

rf80412's picture

Just eliminate laws against lyin' and stealin'.  Since there's no upside to not lyin' and stealin', no barrier to entry means that at least we'll have real competition in that sector.

franzpick's picture

The gov't will ban cash, deposited money will be charged interested, real estate values will decline under last-ditch state taxation, PMs will remain under suppression. Where are you gonna go? Into the last and safest refuge, equities, which no paid politicians will dare try to appropriate.