High Yield Downgrades, Default Rates Near Financial Crisis Level

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Economic Report Monitor #45
June 22nd, 2020

The week starts quietly with just two major economic reports headlining on Monday. The Chicago Fed National Activity Index bounced back in May up to 2.61 after a steep drop to -17.89 in April. The rebound came on the back of a huge May jobs report where payrolls rose by over 2.5 million after the steep 20 million-plus drop in April. There was, of course, a footnote to the massive jobs gains as the Bureau of Labor Statistics admitted the job addition might have been inflated, so aggregate economic indicators like this and the Conference Board indexes may be inflated because of this. The CFNAI also saw an 0.89 bump from production indicators, an increase that could've been larger if industrial production didn't disappoint at up just 1.4%. Sales, orders, and inventories indicators contributed just 0.02 and personal consumption and housing indicators just 0.17. The latter category struggling as strong real estate is offset by weak personal consumption. May data for 51 indicators have not been published yet, so a revision in the June report may still paint a better picture.

Existing home sales from the National Association of Realtors fell -9.7% in May, down -26.6% from a year ago. NAR's chief economist, Lawrence Yun, suggests that the number for last month represents the bottom of existing home sales and that reopening will reinforce a recovery. A 2.3% year-over-year improvement in the median home also suggests that the drop in sales was expected and not a greater signal of uncertainty in future demand. Housing inventory grew, as expected, but remains -18.8% lower than a year before. It seems that even though the pandemic has had chaotic effects on the finances of Americans, demand for housing has only been sidetracked and not completely lost.


Moody's provides a view into high-yield data in one of its weekly market outlook's titled "Net High-Yield Downgrades Drop from Dreadful Readings of March and April." The report tracks the ratio of net high yield downgrades to the number of high-yield issuers which correlates with the high-yield default rate. At the end of 2020 Q2, Moody's estimates that ratio to have skyrocketed to 30.2%, double 5-year high around 15% in 2015 and just below the financial crisis peak of 32.8% in March 2009. This high level of downgrades comes even in the face of stimulus provided by the Federal Reserve. A regression model predicting high-yield default rates based on this ratio suggests "a 14.1% midpoint for the average U.S. high-yield default rate of 2021’s first quarter" which is higher than early June estimates by Moody's.

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