Corporates to Continue Piling Cash

Corporate cash piles in the U.S. will continue to grow as the year ends. Company liquidity will increase roughly 5% to $1.9 trillion at the end of 2017, according to a recent report from Moody’s Investors Service.

Nearly half of corporate cash piles in the U.S. will be held by the technology sector. In fact, the top five cash holders—Apple, Microsoft, Alphabet (Google), Cisco Systems and Oracle—all come from the tech sector. The five companies will hold 35% of the total nonfinancial cash piles this year. Apple alone will have almost 15% ($285 billion) of the total corporate cash pile.

The increase in tech cash piles is due to the sector’s strong cash flow, according to Moody’s Senior Vice President Richard Lane. Offshore cash piles of U.S. nonfinancial corporates will also increase this year. U.S. firms aren’t the only companies focusing on cash.

Several weeks ago, Samsung named a new CFO to manage nearly $70 billion in cash. The electronics company has increased its cash pile 8% in three months. In Japan, over half of the listed companies reached all-time highs in retained earnings, said Nikkei Asian Review. Two of the world’s top automakers led the way. Toyota had more than $160 billion in retained earnings, while Honda was a distant second with over $62 billion in retained earnings. “Critics point to restraint on wage increases and dividends as another factor letting corporate cash pile up,” said Nikkei.

– Michael Miller, editorial associate

Australian Government Mandates Quicker Payment to Small Businesses on Infrastructure Projects

The Australian government plans to cut payment times for small businesses on public contracts by up to a third as it attempts to encourage small business competitiveness in infrastructure projects, according to a recent report in the Brisbane Times.

The changes, suggested by the Australian Small Business and Family Enterprise Ombudsman, will impact more than 6,800 businesses that have been hampered by month-long payment times for work on government contracts, the publication reports. As of last week, the Australian government will have to pay invoices for contracts worth up to $1 million within 20 days.

According to a 2016 Dun & Bradstreet report cited by the Brisbane Times, contractors for businesses with 500 or more employees saw average payment delays of 18 days beyond 30-day terms. The ombudsman said up to half of all small businesses had more than $20,000 owed to them.

"Adverse payment terms between businesses can have a negative impact on competitiveness, increase the cost of doing business and place significant stress on owners," Federal Small Business Minister Michael McCormack was quoted as saying in the report.

Small firms in Australia with a turnover of up to $50 million per year will also benefit from recent tax cuts—from 30% to 25%—that will be phased in by 2027, the Brisbane Times reported.

– Nicholas Stern, managing editor

Climate Change to Be an Increasing Credit Factor

The increasing effects of climate change are expected to incur an economic impact on U.S. state and local governments, according to a new report from Moody’s Investors Service. Climbing global temperatures and rising sea levels will be a negative credit factor for those without sufficient adaptation and mitigation strategies, the ratings agency said.

“While we anticipate states and municipalities will adopt mitigation strategies for these events, costs to employ them could also become an ongoing credit challenge,” said Michael Wertz, a Moody’s vice president. “Our analysis of economic strength and diversity, access to liquidity and levers to raise additional revenue are also key to our assessment of climate risks, as is evaluating asset management and governance.”

Moody’s credit analysis takes into account the effects of climate change when analysts believe that a meaningful credit impact is highly likely and will not be mitigated by issuer actions, even if it is years in the future. The report makes a distinction between climate trends, which are shifts in climate that take place over decades, and climate shock, which includes extreme weather events such as natural disasters and floods that are made worse by climate change. Extreme weather patterns can create economic challenges from smaller crop yields, infrastructure damage and higher energy demands.

“U.S. issuer resilience to extreme climate events is enhanced by a variety of local, state and federal tools to improve immediate response and long-term recovery from climate shocks,” Wertz said.

The ability of local government to mitigate credit impacts can be affected by the availability of state and federal resources. Municipalities can benefit from disaster aid provided by the Federal Emergency Management Agency to assist in economic recovery. The preparedness and planning of municipalities is weighed with the impact of climate risks when Moody’s analyzes credit ratings. Analysts for municipalities that have higher exposure to climate risk also focus on current and future mitigation steps and how those steps affect the issuer’s overall profile, Moody’s said.

– Adam Fusco, associate editor

Japanese Corporate Earnings Stable in 2018 on Global Economic Growth

A combination of moderate global economic growth and solid domestic demand will support Japanese corporate earnings in 2018 and produce stable outlooks for most sectors in the country.

"We project 2018 GDP growth of 3.2 % for the G20 economies and 1.1% for Japan, while rated Japanese companies' EBITDA will grow 1% to 3%," said Mihoko Manabe, a Moody's associate managing director, in a new report. “The recovery in commodity prices will support the earnings of trading companies, and the oil and gas and mining sectors, but higher raw material costs may pressure margins for autos. At the same time, for Japanese corporates overall, a cautious stance towards financial management and investments will lead to a modest fall in leverage, supporting credit quality and ratings," Manabe said.

Moody’s analysts expect ongoing monetary and fiscal accommodation to boost domestic demand in the coming year. Meanwhile, electric vehicles will provide potential earnings bumps to the manufacturing and service sectors. Still, Moody’s outlook for the Japanese auto sector is negative on low unit sales predictions for 2018. Maturing technologies already in use will make way for newer technologies and propel companies to restructure and look for new investments. Telecoms, steel, shipping, utilities, trading companies, electronics, oil and gas, pharmaceuticals and real estate all have stable outlooks.

Downside risks for the Japanese economy include lower-than-anticipated global economic growth that could weaken demand for exports, a strengthening yen, geopolitical risks and protectionist policies in advanced economies, analysts said.

– Nicholas Stern, managing editor

Brexit Already Starting to Impact U.K. Corporates

The fallout from Brexit is starting to weigh on U.K. corporates, particularly those that are more leveraged and have other significant operating issues. “Any broader impact on corporate sectors remains dependent on post-Brexit trade terms and the amount of time companies have to prepare for change,” Fitch Ratings analysts said in a new report.

Last month, Monarch Airlines collapsed, thanks in part to the pound’s drop, which pushed up dollar denominated costs. That in turn ramped up pressures from low cost carriers, Fitch said. More recently, easyJet had an adverse currency impact as well. Still, “…We believe the key credit risk for airlines is the potential loss of access to the single aviation market, which allows an airline in an EU member state to operate anywhere in the EU. Access is vital for [low cost carriers’] point-to-point business models and certainty will be needed well before the planned Brexit date of March 2019 because flights are open for booking months in advance.” Carriers’ offices being opened up in Europe won’t help resolve the uncertain issue of flights between the U.K. and Europe.

Meanwhile, food prices are taking off at the fastest rate since 2013, and more World Trade Organization tariffs imposed in the situation of a hard Brexit would exacerbate the problem, especially if the pound continues to depreciate, Fitch said.

Staffing costs may rise if uncertainty around Brexit causes EU nationals to leave ahead of a resolution, analysts said. Nursing shortages have already popped up at Four Seasons Health Care, which reported a rise in staff costs recently attributed to a Brexit-related shortage of nurses.

London real estate, exposed to the potential loss of financial jobs, is another area that could be negatively impacted by Brexit. The British auto industry—especially for low-margin, high-volume manufacturers—could also come to raise costs for automobiles depending on how trade terms are worked out in Brexit. “Non-tariff barriers could be an equally big challenge to just-in-time manufacturing models if Brexit leads to frequent customs delays,” Fitch analysts said. “This is already delaying investment decisions and in the long term could move more auto manufacturing and associated supply chains out of the U.K.”

– Nicholas Stern, managing editor

New Business Volume Rises in October

New business volume in October rose 2% year-over-year from that in October of last year, though it was down 3% month-to-month from that in September. According to the Equipment Leasing and Finance Association’s (ELFA) Monthly Leasing and Finance Index, which covers economic activity from 25 companies who represent a portion of the $1 trillion equipment finance sector, cumulative new business volume was up 4% compared to 2016, year to date.

“Equipment finance originations continue to grow, albeit slowly, as some sluggish market verticals show signs of rebounding,” said ELFA President and CEO Ralph Petta in a release. “This trend, coupled with buoyed confidence in overall economic conditions, paves the way for a very healthy end-of-year bump.”

Credit approvals clocked in at 74.6% for October, up from 74% in September. Head count for equipment finance companies was up 17.1% year-over-year, though this is attributable mostly to one company in the survey. Participants in the index include Bank of America Merrill Lynch, BB&T Bank, CIT, Hitachi Credit America, M&T Bank, Merchants Bank Equipment Finance, TD Equipment Finance, Volvo Financial Services and Wells Fargo Equipment Finance.

Receivables over 30 days were 1.4%, the same as in September and unchanged from the same time frame last year. Charge-offs were 0.41%, only a slight rise from the previous month. The separate Equipment Leasing & Finance Foundation’s Monthly Confidence Index registered 67 in November, up from 63.7 in October.

“Business confidence is very strong and building, despite the relatively flat growth of originations,” said David C. Mirsky, CEO of Pacific Rim Capital, in the release. “This is because lessors are feeling mounting strength in the overall economy, evidenced by increasing requests for quotations and new orders being placed by lessees in every market segment.”

The hurricanes that occurred earlier in the year have had an effect on the economy, as shown by recent numbers from the “index of indices.” “The Conference Board’s index of leading economic indicators rose slightly more than expected as the economy shrugged off the impact of the hurricanes,” said NACM Economist Chris Kuehl, Ph.D. “It wasn’t so much that the storm damage was ignored—more that the storm aftermath took over as far as the economy is concerned. The initial damage was not quite as severe as had been expected (at least at a national level), but the reconstruction has been swift and has boosted several areas of the economy. The expectation had been a 0.9% boost; the actual improvement was 1.2%, to a total of 130.4.”

– Adam Fusco, associate editor

Cov-Lite Loans Pose Greater Risks as Leveraged Finance Activity Nearly Reaches Post-Crisis High

Corporate creditors should take note that the covenant-lite loans that are predominating in the North American leveraged loans sector provide new risks that could jeopardize lenders’ ability to repay.

Cov-lite loans accounted for approximately 77% of the leveraged loans that Moody’s Investors Service has analyzed since the beginning of 2016; this figure is up from 25% a decade ago. Vanishing maintenance covenants and those covenants providing leveraging, lien and structural protections may not prohibit borrowers from taking certain actions that could harm their ability to pay the loans back, Moody’s said.

"Strikingly, the covenant packages are weakest in lower-rated cov-lite loans," said Derek Gluckman, a Moody's vice president and senior covenant officer. “Cov-lite's domination of the leveraged loan market is now well established. But cov-lite loans are more risky for investors, with the absence of maintenance covenants depriving them of early warnings of distress, periodic oversight and the opportunity to secure a place at the head of the line when enforcing their rights."

Libor spreads are also tightening on these cov-lite loans, the analysts warn. “The expectation of receiving some premium for taking on increased risk remains challenged by extraordinary demand in the loan market,” Moody’s analysts said. “Analysts at the rating agency have observed a compounding of default and structural risks in the lower-rated cov-lite loan space where the weakest covenant packages are found, but noted offsetting compensation is not so clearly evidenced when looking at spreads.”

Meanwhile, in a separate report, Moody’s analysts note that high-yield bond issuance increased to its highest monthly level this year, while overall leveraged finance volumes have reached a post-crisis high.

High-yield bond volumes reached $21.7 billion in October, up from $5.7 billion in September as well as the prior October’s $4.3 billion, Moody’s said. "While larger transactions contributed to the exceptionally large high-yield bond issuance, October's volumes also benefited from the high number of issuers, including first-time issuers, accessing the market. Increased activity in the cable and telecom sectors also boosted loan volumes," said Peter Firth, an associate managing director at Moody's.

Leveraged finance activity so far this year has nearly reached the post-crisis record of $240 billion in 2014.

– Nicholas Stern, managing editor

Business Confidence Hits Three-Year High

More than a third of companies forecast growth, indicating a high degree of confidence in the U.S. private sector, according to IHS Markit’s latest Business Outlook report. Favorable business conditions and new product developments are reasons for the positive sentiment. Expectations regarding future output were also buoyed by strong client demand and larger customer bases. Potential threats to growth include supply chain pressures and changes in government regulations.

“The latest data on industrial production has been as impressive as it has been in several years, and the most interesting aspect of this recovery is that it has come despite the impact of the hurricanes,” said NACM Economist Chris Kuehl, Ph.D. “The drivers for the manufacturing boost have been manifesting all year and continue to pick up speed. The export sector is as strong as it has been since the recession because the economies of Europe and Japan have been on the rebound and they are both important markets for the U.S. The weaker dollar has been a big contributor as well.”

“Optimism among private sector firms is the highest since June 2014 for both output and new orders,” said Sian Jones, economist at IHS Markit. “Moreover, confidence is reflected across both manufacturers and service providers. In line with greater confidence, business revenues are forecast to rise at the quickest pace since mid-2014. Similarly, expectations around profits are the strongest since February 2014. Expenditure on capital investment, however, is predicted to soften from the previous survey period, but remained in line with recent trends.”

Optimism is also high in regards to increasing staffing levels among goods producers for the coming year. Confidence in hiring is at its highest in three years. Service providers also foresee a pickup in job hiring plans. Workforce numbers in the U.S. are expected to grow at a faster pace than the global average.

Supplier shortages and higher raw materials prices will weigh on the cost burdens of private sector firms over the coming year, though companies expect just a mild rise in input prices compared to the global average, IHS Markit said.

– Adam Fusco, associate editor

Some U.S. States Will Lose More than Others under NAFTA Renegotiation

As President Trump’s administration takes more of a hard line on trade, it may be time for an evaluation of the effects changes in policy may have, and in detail. In a recent report, Fitch Ratings assesses the impact of changes to or withdrawal from the North American Free Trade Agreement (NAFTA) on individual states and the role they play in trade with Canada and Mexico. Though it seems the administration is willing to renegotiate the trade pact rather than withdraw from it altogether, the ratings agency looked at data in light of minor changes to NAFTA that could result in prolonged negotiations as well as major disruptions in trade that could occur from a complete withdrawal.

North Dakota is at the top of the list among states in terms of its export exposure to Canada, according to a ranking of U.S. states’ 2016 import and export trade volume with Canada and Mexico from the U.S. Census Bureau. A total of 82% of North Dakota’s exports were sent to Canada in 2016. New Mexico is No. 1 by volume of exported goods shipped to Mexico, with the Mexican domestic market the destination for 43% of that state’s exports, Fitch said.

The states with the largest export exposures to Canada, after New Mexico, are Maine, Montana, Michigan, Vermont, Ohio, Missouri, South Dakota and Indiana. Major export industries include farm products, energy (i.e., oil and natural gas), machine parts and automotive products.

Eleven U.S. states send 30% or more of their exports to Canada, including those above, and 24 others depend on Canada for at least 20% of their exports. Imports of industrial and consumer goods in these states are heavily weighted toward Canada. A withdrawal from NAFTA would greatly increase import tariffs, imposing substantial costs to U.S. importers and consumers, Fitch said.

Mexico took in 40% of Texas’ exports by product value in 2016, and the Mexican domestic market was the recipient of 38% of Arizona’s and 15% of California’s exports. Due to the complex supply chain in the automotive industry that started in 1993, when NAFTA was signed, Michigan is a big component in U.S./Mexico trade. Twenty-two percent of Michigan’s exports by value, mostly automotive and heavy machine components, were destined for Mexico in 2016. Other states with important exporting relationships with Mexico include South Dakota, Nebraska, Iowa, Kansas and Missouri.

Michigan is in a unique position if NAFTA’s terms change drastically, due to its proximity to Canada and prominent role in the automotive industry. Sixty-five percent of the state’s exports went to Canada and Mexico, resulting in 7.4% of its Gross State Product in 2016.

– Adam Fusco, associate editor

U.S. Steel Sector Has Stable Outlook

The U.S. steel and metals sector is stable overall, according to the latest Market Monitor from credit insurer Atradius. The demand for U.S. steel is expected to increase by roughly 3% in 2017 and 2018, following a nearly 5% decline in 2016.

“While the overall financial and credit conditions are generally stable, steel/metals companies still must be financially very viable in order to obtain their preferred lending terms and interest rates,” said Atradius. Since the second half of last year, steel prices have rebounded. There was a profit margin deterioration in 2015 and the first half of 2016 due to the lower cost of imported steel and a drop in demand from the oil and gas sector.

Overall, payment delays and defaults have stabilized. Payments on average take from 30 to 45 days domestically and 60 to 90 internationally. Industry insolvencies are not expected to rise much this year and next year. “However, an increase in both payment delays and business failures in Puerto Rico and the area around Houston with its large oil industry cannot be ruled out,” said the market watch report. This is due to the recent hurricanes to make landfall.

The possibility of a major infrastructure plan “would certainly help the sector,” said Atradius. This was one of three strengths for the industry, along with lower insolvencies and a businesses’ stable financial situation. International trade wars and increasing competition were among the weaknesses.

Atradius also reviewed the steel industry in other countries, including China, Germany, the U.K. and India.

– Michael Miller, editorial associate

Small-Business Optimism Rises in October

Small-business owners expect higher sales and anticipate that now is a good time to expand, according to October’s Index of Small Business Optimism from the National Federation of Independent Business (NFIB). Four of the index’s components rose while five declined slightly, and one remained unchanged. The categories of expansion and sales expectations each climbed six points; the job openings category rose by five points. Overall, the index rose to 103.8 in October, up from 103 in the previous month.

“Owners became much more positive about the economic environment last month, which suggests a longer-run view,” said NFIB Chief Economist Bill Dunkelberg. “In the nearer term, they are more optimistic about real sales growth and improved business conditions through the end of the year.”

The labor market remains tight for small-business owners, which has been a trend the past year. Among owners, 59% reported that they tried to hire in October; 88% of them reported finding no or few candidates who were qualified. Construction firms are still trying to meet demand due to the recent hurricanes, with the result that hiring activity was particularly strong in Florida and Georgia.

Just 2% of small-business owners said that financing was their top business problem. Four percent reported that all of their borrowing needs were not met, a historical low. Twenty-nine percent said that their credit needs were met, a decrease of four points, and 53% said they were not interested in a loan, an increase of two points.

“Consumer sentiment surged based on optimism about jobs and incomes, an encouraging development as consumers account for 70 percent of GDP,” Dunkelberg said. “We expect a pickup in auto spending as people in Texas and Florida continue to replace cars that were damaged in hurricanes. We expect the same increase in home improvement spending, partly because of the hurricanes, but also because of the skyrocketing price of homes.”

– Adam Fusco, associate editor

China Looks to Expand Presence of International Aircraft Lessors

Thanks to a rise in the number of Chinese consumers able to spend more on travel, Chinese aircraft lessors are expanding rapidly and bringing added competition to the global marketplace that may further pressure the yields and margins of established companies.

China’s growth in air traffic has been a key driver of strong global demand for commercial aircraft, and in a recent report by Fitch Ratings analysts expect the rapid pace of this growth to continue, with revenue per passenger kilometer likely to increase to 10% per year over the next decade or so. So far this year, 42% of Chinese aircraft deliveries have been lessor-owned, up from 33% in 2012.
China’s Belt and Road initiative and Go Global strategies are also helping drive Chinese lessors pursuing international expansion, Fitch said. This expansion is also aided by airspace bottlenecks and a lack of airport capacity for domestic routes.

“Chinese-backed aircraft lessors are competing aggressively in the global market across the spectrum of future aircraft orders, new delivery transactions and the leasing of older aircraft,” Fitch said. “Chinese entrants may price risk differently from established players, given their growth priorities and generally shorter track record in aircraft leasing. Leasing subsidiaries of leading Chinese banks [are] also benefiting from their parents' funding and capital support, which may lower their funding costs and provide an advantage over standalone global competitors.”

Increasing competition in the worldwide market could pinch profitability and weaken underwriting standards for established international lessors, thus raising the risk of market shocks putting pressure on lessors’ ratings. “Several airlines have already been forced into bankruptcy this year, including Monarch of the U.K., Air Berlin and Alitalia. This illustrates the weak credit quality of some airlines even in a benign market environment, as well as the dangers for lessors of significant airline customer concentration,” analysts said.

– Nicholas Stern, managing editor

G20 Nations Issue Fewer Trade Restrictions in Recent Period

G20 economies have introduced fewer trade-restrictive measures since May than the prior period and many more trade-friendly measures, according to a new report from the World Trade Organization (WTO).

Nations within the trading block adopted 16 new trade-restrictive measures from May to October, including new or increased tariffs, export restrictions and local content measures; this was about half of the number of measures introduced from mid-October 2016 to May 2017, the WTO said. Meanwhile, G20 economies implemented 28 measures designed to facilitate trade from May to October.

“G20 members have shown restraint in implementing trade-restrictive measures, despite continuing economic uncertainties,” said WTO Director-General Roberto Azevedo in a press release. “This is positive news and it shows again that the global trading system is working. Nevertheless, the threat of protectionism remains and so I urge G20 countries to redouble their efforts to avoid implementing new trade restrictions and to reverse those measures that are currently in place.”

– Nicholas Stern, managing editor

Emerging Market Corporate Ratings Hindered by Commodities Downturn

Even though global economic growth is set to be the strongest since 2010, the corporate ratings of emerging markets (EM) will take time to catch up. According to a recent report from Fitch Ratings, the downturn in commodities has damaged balance sheets and the Brazilian recession is also a drag on international ratings, despite a likely 10% increase in revenues this year among emerging markets as a whole.

Though Fitch expects that eventually the positive economic atmosphere will shift the direction of its rating actions, it will not likely happen until next year. So far in 2017, EM corporate downgrades have outnumbered upgrades 60 to 45. Ratings outlooks and watches have also tended toward the negative, though less so compared to last year.

Global GDP is expected to increase by 3.1% in 2017 and 3.2% in 2018 from strong growth in the U.S. and robust performance in the eurozone, Fitch said. This will support demand of EM exports. The two years of economic contraction in Brazil, however, weighs on ratings, though a return to growth in that country is anticipated.

Commodity prices, with the exception of oil, have outperformed Fitch Ratings’ expectations. This, along with a weakening U.S. dollar, should contribute to conditions that will lead to expansion for EM corporates. The largest contributors to growth will be energy companies, Chinese domestic homebuilders, utilities, building materials firms and construction firms, Fitch said. Year-end leverage will decline in all regions except China, where a reduction is not expected until 2018.

– Adam Fusco, associate editor

Moody’s: 2018 Sovereign Creditworthiness Outlook Is Stable

Sovereign creditworthiness has a stable outlook for 2018, according to Moody’s Investors Service. The “healthy growth and synchronized global economic expansion of 2017 [is] likely to continue into 2018,” said the ratings agency in a release.

Moody’s rated 137 sovereigns in its most recent 2018 outlook. Nearly three-fourths of them have a stable outlook, while 10% have a positive outlook and 22 sovereigns have a negative one. There were 35 negative outlooks a year ago.

"The macroeconomic environment for sovereigns is more favorable than it was a year ago," said Moody’s Managing Director of Global Sovereigns Alastair Wilson. "Moody's expects global GDP growth in 2018 to remain over 3% in 2018, similar to 2017. That benign economic backdrop allows governments a longer window in which to carry out economic and fiscal reforms."

Despite a favorable global outlook, Moody’s cites several challenges that prevent “a greater improvement in global credit conditions,” according to the report. Among the issues are political uncertainty and social tensions. This problem can be seen in Brazil, South Africa and Turkey, noted Moody’s. “Overall, slow progress on reforms leaves many sovereigns more vulnerable to a deterioration in their credit profiles in the event of a shock.”

Public debt levels are also a cause for concern, but Moody’s predicts almost half of the sovereigns’ debt burdens will stay within one percent of current levels. "While benign economic conditions lower the risk posed by high debt levels, few sovereigns have much, if any, fiscal space to respond to shocks," explained Wilson. Heightened geopolitical risk is the third challenge listed by Moody’s, which could “potentially undermine the stable outlook for sovereign credit.” Among the specific challenges were U.S. protectionism, a potential military conflict in Korea and tensions in Spain.

– Michael Miller, editorial associate

Global Economic Growth Edges Higher in October

The global economy continued it steady progress as the final quarter of the year began. The J.P. Morgan Global All-Industry Output Index, produced by J.P. Morgan and IHS Markit, rose a fraction in October to 54. The headline index has signaled growth for the past 61 months.

“October saw rates of expansion in global economic activity and employment edge higher, despite new order growth ticking lower, suggesting that the global economy is maintaining its solid and steady growth path,” said David Hensley, director of global economic coordination at J.P. Morgan. “Signs that price inflation eased should provide some respite to firms and ensure cost pressures will not constrain growth in the months ahead.”

Activity increased in all six categories of the survey, indicating broad-based expansion. Consumer-facing sectors such as consumer goods and services were weaker than other industries, such as intermediate goods, investment goods, business services and financial services.

One of the best performing regions is the eurozone. Though the rate of expansion of its economic activity eased, it is one of the best registered during the past six-and-a-half years, IHS Markit said. Growth accelerated in France while it eased in Germany, Italy, Spain and Ireland.

New orders increased globally for the hundredth month in October, though the pace of expansion eased to a four-month low. Business optimism increased from new business intakes and still-rising outstanding business. Backlogs of work have been increasing for 15 months. Rates of inflation in input costs and output charges slowed in October, easing price pressures, IHS Markit said.

– Adam Fusco, associate editor

More Small Businesses Taking Credit/Debit Payments

Small business owners look like they’re embracing new technologies when it comes to the types of payments their businesses will accept, allowing more in-person credit and debit card payments using point-of-sale terminals.

According to the latest Wells Fargo/Gallup Small Business Index conducted in early October, 39% of business owners now accept credit or debit card payment, up from 31% in January 2016. Also, 33% accept credit or debit card payments via a mobile point-of-sale terminal, up from 20% in January 2016. Twelve percent of business owners said they accept digital wallet payments, compared to 5% in January 2016. Still, the top form of accepted payments, at 88%, is in-person cash or check, followed by a mailed check at 82%.

The survey found optimism is still high—at 103 in October from 106 in July, when it was the highest reading in a decade. Seventy-one percent of respondents said their financial situation was very or somewhat good in October. Businesses have been buttressed by steady revenues, healthy cash flow and a relative ease of obtaining credit.

Hiring and retaining quality staff members remains the top challenge of small business owners, according to Wells Fargo/Gallup. Sixteen percent of owners said hiring was their biggest issue, up from 13% during the prior quarter. Thirty-two percent of owners reported their plans to increase the number of jobs at their businesses next year, marking the second highest percentage in the 14-year history of the survey.

“Hiring the workers they need has clearly become a more pressing issue for small business owners,” said Mark Vitner, senior economist at Wells Fargo. “Labor markets have tightened around the country and many workers that had been employed part-time have moved on to full-time positions, making it particularly difficult to fill these positions right now.”

– Nicholas Stern, managing editor

BOE Rate Rise Points to Interest Rate Normalization

The Bank of England’s recent decision to increase U.K. interest rates by 25 basis points highlights the fact that shrinking output gaps and tighter labor markets are causing central banks to move toward interest rate normalization.

According to a report from Fitch Ratings, the Bank of England is looking to tighten policy slowly. The bank said Thursday that its Monetary Policy Committee voted seven to two to increase the bank rate to 0.5%, reversing the cut made last August following Brexit. The last rate hike was made in July 2007. The bank also left the stock of bonds purchased through so-called quantitative easing unchanged.

“We think another increase is unlikely in the next 12 months, given the impact of Brexit uncertainty on the outlook for investment,” Fitch analysts said. The ratings agency said the bank’s decision doesn’t change its U.K. growth forecasts, “…which see a net trade boost partially offsetting slower domestic demand this year, enabling real GDP to rise by 1.5%, before slowing to 1.3% next year. But it remains to be seen how firms and households adjust to a shift in the monetary policy stance after such a long period without a rate rise.”

The bank’s decision underscores how tighter labor market conditions, with U.K. unemployment at a 42-year low, as well as concerns about harmful supply-side affects from Brexit, have decreased the acceptability for higher-than-expected inflation. Inflation grew to 3% in September, in part, as a reaction to a weakening sterling.

“As output gaps close, central banks around the world are generally refocusing on policy normalization,” Fitch analysts concluded.

– Nicholas Stern, managing editor

Kamakura: Corporate Credit Quality Improves in October

The Kamakura Corporation’s troubled company index ended October with a decrease of 0.61% from the previous month, at 7.16%. A decrease in the index reflects improving credit quality. The index is the percentage of companies in Kamakura’s 39,000 public firm universe that have a default probability of more than 1%.

“Global economic news remains positive, with momentum building in many markets,” said Martin Zorn, president and chief operating officer for Kamakura. “While inflation remains muted, the Fed believes that the Phillips Curve holds and tighter labor markets will boost inflation in the months ahead. On the other hand, market expectations have not moved much. European economic data and sentiment remains positive and the markets have largely ignored the turmoil in Spain. These indicators all point toward increased interest rates ahead, with the possibility that rates may rise faster than market expectations.”

Volatility in the index remained low in October. At the end of the month, the percentage of companies with default probabilities between 1% and 5% was 6.02%, a decrease of 0.39% from September. At its current level, the index is at the 88th percentile of historical credit quality, with 100 being best, from January 1990 to the present. Of the 10 firms rated the riskiest, seven were from the United States and one each from Australia, Canada and Great Britain. The riskiest firm is Windstream Holdings, which has been on the troubled company list since 2014.

“In Asia, we see increases in China’s government bond yields accelerating,” Zorn continued. “This could be bad news for leveraged loans, zombie companies and low-income Americans who are leveraging to the max according to recently released data. Stress testing interest coverage protection on debt instruments should be a priority for portfolio managers in the current environment.”

The Kamakura troubled company index measures the percentage of firms that have an annualized one-month default risk over 1% among a group of 39,000 public firms in 68 countries. Kamakura uses a large historical database with more than 2.2 million observations to produce a forward-looking statistical estimate of default risk 10 years into the future, with the troubled company index focusing on the short term.

– Adam Fusco, associate editor

Moody’s Sector Risk Roundup: European Auto Parts, Global Beverages, Brexit Ports

The European auto parts sector looks stable with a steady stream of global light-vehicle sales, while the global beverage industry’s outlook also remains stable, thanks to expected growth in brown spirits and craft beer sales, according to reports released today by Moody’s Investors Service. Meanwhile, a Brexit “no deal” could bring new risks to the U.K. port sector.

European Auto Parts
Moody’s expects 2017 organic revenue growth for the European auto parts sector to achieve approximately 4.5%, and then to slow to 3.5% in 2018. The growth will be driven by global light-vehicle sales. This year, vehicle sales should grow 1.3% and 1.5% in 2018, which is still a large drop from the 4.1% gain realized in 2016.

"European auto parts suppliers will continue generating revenue growth in excess of global light-vehicle sales as stricter carbon emissions enforcement, consumer demand for improved safety features and the development of autonomous driving technologies drive more content per vehicle and underpin the stable outlook on the sector," says Matthias Heck, vice president, senior analyst at Moody's.

EBITA should remain robust in 2017 at 4.5% to 5% and 3.5% to 4% in 2018, Moody’s said. Free cash flow generation among European auto suppliers will improve through 2018 as revenue growth slows and working capital levels improve. “However, capital expenditures and R&D spending will remain high in the sector, constraining free cash flow at about 2% of sales in 2017 and 2018, which is in line with the historical five-year average,” Moody’s analysts said.

Global Beverages
Premium brands and innovation are supporting higher prices in the sector, while portfolio mix will offset volume challenges in some categories, said Moody’s in a separate report. Also, large M&A transactions are likely to bring more efficiency to support operating growth. "We expect overall operating profit to grow 4% to 5% over the next one to two years, based on low single-digit sales growth," said Linda Montag, a Moody's senior vice president.

Some commodity cost inflation for beverage companies is also anticipated in the year ahead, Moody’s said. Brown spirits and premium beers are expected to drive growth in the sector, while carbonated beverages and mainstream beers will continue to challenge sales growth. Still, both of the latter categories have room to grow in emerging markets.

U.K. Ports
A “no deal” scenario regarding Brexit would complicate matters for the U.K. port sector, which currently sees frictionless, custom-free EU trade, another Moody’s report concluded. Chances of a “no deal” do remain substantial, though Moody’s predicts the U.K. and EU should find some agreement that maintains many of the current arrangements.

"While a Brexit 'no deal' presents a risk, the impact would vary depending on a port's diversification and traffic mix. For example, non-EU-reliant ports, like Felixstowe, and diversified port groups such as Associated British Ports, are less exposed than single ports that rely on EU traffic, like the Port of Dover," said Joanna Fic, vice president and senior credit officer at Moody's.

The “roll-on roll-off” ferry ports and the Channel Tunnel are the most exposed to a no-deal Brexit. Ferry ports such as Dover and Holyhead, as well as Groupe Eurotunnel SE, have little or no room to accommodate delays in the movement of passengers or trucks, Moody’s said.

Container ports would have a more mixed response to such pressures. A change in trade flows could benefit some ports, including on the east coast, as ports that rely on “feeder services” from the EU could be exposed to a shift in volume to larger ports if tariffs and customs became an issue.

Large and diversified ports are the most sheltered from a no-deal storm. Ports with available land, for instance, could develop port-centric activities such as warehousing to support just-in-time deliveries, Moody’s said. “However, this would require adjustments in the supply and logistics chain, a complex and uncertain process, and port companies would need to make investments without visibility on future volumes and returns,” analysts said.

– Nicholas Stern, managing editor