According to Oaktree, if interest rates remain high, more businesses will owe more in interest than they would generate.
According to Oaktree Capital Management, many companies that took out floating-rate debt in the roughly $1.5 trillion US leveraged loan market could suffer severe difficulties next year if the Federal Reserve keeps its policy rate high.
“On the surface,” a team led by Bruce Karsh, co-chairman and chief investment officer of Oaktree, stated in a new client note, “many companies in the United States appear to be weathering the sea change in interest rates surprisingly well.”
“But storm clouds are beginning to emerge as elevated interest rates are making it more challenging for companies to service their floating-rate debt.”
Leveraged loans are a sort of “speculative-grade” floating-rate debt, but with rates only adjusted multiple times each year, giving unhedged borrowers some wiggle space from Federal Reserve rate hikes until 2022.
However, according to Moody’s Investors Service, approximately 62% of companies in the B- ratings category of the US loan market would see their ability to pay interest on their debts fall below a key 1.0x coverage ratio if the Fed’s policy rate remained unchanged next year at its current 5.25%-5.5% range.