FA Alpha Daily

The worst is yet to come for U.S. bankruptcies

Bankruptcies in the U.S. for 2023 are growing at a rate similar to 2020. However, unlike 2020, the U.S. government has not introduced any initiatives or bail outs. In today’s FA Alpha Daily, we examine the challenges companies face in accessing capital amidst the current high interest rate environment and what it means for the market.

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In 2010 and 2020, when bankruptcies were this high through September, the Fed stepped in to soften the blow and recognized the pain that credit issues were inflicting on the economy.

In 2010, the Troubled Asset Relief Program (“TARP”) was still going on to help banks lend. This was a program initiated by the U.S. government in 2008 during the financial crisis to stabilize the country’s financial system by purchasing troubled companies’ assets and equity.

On top of this, the Fed had cut interest rates to 0%.

The fallout of the 2008 recession is almost exactly what we saw in the aftermath of the pandemic recession.

In the final third of 2020, the Fed and Congress introduced the Paycheck Protection Program (“PPP”) and Main Street lending loans to help businesses stay afloat.

Just like 2010, interest rates were basically zero.

Of course, some companies still went bankrupt in the final quarter of 2010 and 2020. But the Fed’s assistance clearly helped.

In 2010, the final quarter of the year accounted for just 21% of the year’s bankruptcies. And in 2020, the recovery was even stronger – only 19% of bankruptcies happened between October and December.

In other words, the economy was improving in both cases.

Not today.

Right now, even with bankruptcies running so high, the Fed isn’t budging. Instead of easing credit availability, the Fed is holding strong at its tightest policy rates in some time.

Last week, the Fed held the federal funds rate at 5.25% to 5.50%, marking its peak since the early months of 2001.

With rates so high, individuals and businesses aren’t as willing to borrow. And those who need to borrow aren’t looking so good. That’s why banks are getting nervous and making credit standards tighter.

There are still two months left in the year. And with rates remaining at 20-year highs and lending standards continuing to tighten, it’s only going to get harder for businesses to stay afloat.

When credit tightens, loans are harder to get and interest rates are higher. This makes it costly for businesses to borrow money. They might struggle to pay for things they need, like stock or wages. So, it becomes harder for them to keep running smoothly.

So, even though this year looks a lot like 2010 and 2020, the worst is yet to come. We can’t say exactly how many companies will go bankrupt, but it’s likely that more than 25% of the year’s bankruptcies come in the final quarter.

Bankruptcies tend to scare the markets, and for good reason. Be prepared for a selloff as major bankruptcies get announced.

Best regards,

Joel Litman & Rob Spivey

Chief Investment Strategist &
Director of Research
at Valens Research

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