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Officials in Washington and around the world have pulled out all the stops in terms of both easy monetary and fiscal policies in a determined effort to bridge the gap between the pre- and post-pandemic economy.
This has sparked fresh worries for investors about the unsustainable growth of government and corporate debt worldwide. That is why it’s more important than ever to focus on the financial health of the companies and countries you’re investing in.
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As you can see in the graph below, high levels of government debt to GDP isn’t a new problem; it’s been expanding at a rapid rate for decades.
But renewed deficit spending to combat the pandemic may have just triggered the start of another massive move higher, similar to the post-financial-crisis explosion in government debt after 2007-08.
During that period, debt-to-GDP skyrocketed from about 100% to more than 175% worldwide. And although the trend leveled off in recent years, it is clearly now accelerating again.
The question is: Just how much more debt can be piled on top of already massive borrowings?
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Global corporations have not been left out of the unrestrained debt binge either, as you can see above.
Economists forecast that global corporate debt ratios as a share of GDP could surge 10 percentage points higher this year alone to about 95% of GDP. They consider this a danger zone that could be a serious drag on economic growth.
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Now for the good news …
Fortunately, for U.S. companies the best antidote in a debt epidemic is strong cash flow. It needs to be strong enough to adequately pay off that debt. And S&P 500 companies are piling up cash-rich balance sheets at a healthy clip, as you can see below.
While total corporate debt is on the rise, the quarterly increase in cash and short-term investments at S&P 500 firms is far outpacing the growth in debt. Last quarter alone (Q1 2020), S&P 500 company cash levels shot up 13.9%, dwarfing the 3.5% increase in debt.
This brings me back full circle to a previous post in which I pointed out that high-quality companies with strong balance sheets and plenty of cash are the best stocks to invest in at this stage of the economic cycle.
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In fact, a strong balance sheet index of stocks tracked by Goldman Sachs easily beat the overall market this year by gaining 22% through the end of April, compared with a 17% move in the S&P.
What can I say? Cash really is king.
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Good investing,
Mike Burnick