Financial markets have been increasingly volatile this year, with implications for issuance and credit stability. While S&P Global Ratings does not believe market volatility causes rating changes, we see market volatility as a response to fundamental stressors appearing or building. Below, we address frequently asked questions about market volatility, increased credit financing costs, and related topics.

Frequently Asked Questions

Are rising benchmark yields a clear negative for credit?

Not typically, but persistent inflation could tip the balance in some regions this time. We have seen eye-catching increases in key benchmark yields year-to-date, with 10-year Treasury, Bund, and Gilt yields still all up at least 80 basis points (bps), despite a recent sell off. This trend is more consistent with less liquid credit markets. It is not in itself unexpected that monetary policy is tightening in many regions as economies continue to recover from the pandemic. Nor are rising rates necessarily negative for credit, as they typically follow economic growth, which usually underpins improving credit conditions.

The atypical aspect of the current rise is how inflation--currently at a 40-year high in the U.S and regularly surprising to the upside--is leading to increasing uncertainty around major central banks' reactions. A potential risk for some central banks, most notably the Federal Reserve, is that while their actions may suppress inflation, they may also suppress growth and potentially contribute to a recession, which would be a clear negative for credit. The Fed is increasing the pace of tightening, the Bank of England raised rates in May to the highest in 13 years, the Swedish Riksbank unexpectedly hiked rates in early May, and the Reserve Bank of Australia raised rates sooner than expected. S&P Global's qualitative assessment of recession risk in the U.S. over the next 12 months is 25%-35% with risk greater in 2023 as successive rate hikes take hold. While this indicates only the possibility--not the probability--of a recession, that does not mean credit will be immune, with slower growth impacting revenue and rising yields already increasing nominal financing costs.

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What is happening with credit financing costs?

Credit financing costs are rising across the board. In first-quarter 2022, the rise was led by nominal yields and is now being driven by widening credit spreads. In the first quarter, corporate yields took their cue from benchmark yields and continued to rise steadily, meaning nominal financing costs also rose. More recently, corporate credit spreads, which have been volatile year to date, have risen sharply--surging past February 2022 peaks when the Russia-Ukraine conflict erupted--and are now at least 20% higher than the start of the year. The possibility of a recession or at least slower growth, amid a backdrop of continuing cost and supply chain pressures, is forcing investors to reevaluate credit risk premia.

For existing debt, higher yields weigh heaviest on floating-rate issuers such as those that issued leveraged loans. In the U.S., over 60% of outstanding speculative-grade debt through 2026 is loan-based. Much of this is from issuers that we rate 'B-' and at a time when LIBOR floors are very low, on average (roughly 43 bps compared to historical averages near 100 bps). This means the current crop of loan issuers are weak from a credit perspective and likely to feel the pinch of higher rates quickly.

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If financing costs are rising, can issuers still access primary markets for new financing?

This depends heavily on the issuer, its location, and the instrument it plans to issue. Global bond issuance volumes are down 19% compared to the same period last year. Regionally, Asia-Pacific is broadly in line with 2021 issuance while U.S. and European issuance is down around 32% and 25%, respectively.

Investment-grade issuance makes up around 90% of global issuance year-to date and issuers can continue to access markets, albeit at higher costs. In contrast, speculative-grade bond primary issuance is down over 70% and has effectively ground to a halt in many regions outside the U.S. In fact, the recent primary market freeze in Europe lasted longer than the one induced by COVID-19, and issuance--particularly speculative-grade bonds and to a lesser extent leveraged loans--continues to be very thin despite a generally positive first quarter for many issuers.

Demand dictates supply in credit markets and the demand side for bonds had an unforgiving start to 2022. Regardless of credit quality, investors have generally had to deal with negative returns, lower liquidity, a current trend toward fund credit outflows, and the Russia-Ukraine conflict. Primary markets for speculative-grade borrowers in particular are likely to remain volatile at best and difficult to access at worst.

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Given volatile primary markets, will near-term refinancing risk rise?

Global near-term maturities of rated debt appear manageable. Based upon data as of Jan. 1 2022, corporate issuers continued to extend maturity walls and reduce near-term maturities during 2021, lowering the amount of rated global financial and nonfinancial debt maturing through 2024 by 9%.

In the U.S., maturities through 2024 are at least 40% below 10-year average issuance, and 2023 maturities are in line with the lowest amount of debt issuance over the past 15 years (2008). In Europe, maturities through 2024 are about 15% or more below 10-year average issuance,

Near-term speculative-grade debt maturities in the U.S and Europe could be more problematic in a stress scenario. U.S. and European speculative-grade maturities in 2023 are 16% and 41%, respectively, above the lowest amount of speculative-grade debt issuance over the past 15 years (2008/2009), meaning a prolonged period of market volatility could place pressure on forthcoming refinancings.

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Can S&P Global describe current rating performance trends? What rating sectors are most vulnerable to market volatility?

Positive rating momentum has been slowing. After 42 weeks with upgrades largely exceeding downgrades, downgrades have exceeded upgrades in six of the last 10 weeks--primarily but not exclusively due to the Russia-Ukraine conflict. Positive rating momentum has largely stalled and the overall rating distribution remains materially below where it was before the pandemic (see chart 6).

The level of speculative-grade debt remains near an all-time high. Rated debt levels are currently 6% higher than before the pandemic, leaving lower-rated issuers vulnerable to market shocks (see chart 7). As inflationary pressures and supply chain issues continue to weigh on issuer balance sheets, many may face weaker-than-expected performance--particularly those at the lower end of the rating scale. Total average leverage for both U.S. and European issuers rated 'CCC+' and below is over 10x.

We are seeing growing divergence between regions, as the pace of recovery in Europe appears slower than in the U.S. and Canada. The percentage of 'CCC' rated issuers in Europe, at 11%, is higher than its five-year average of 8%. In the U.S. and Canada, the percentage of 'CCC' rated issuers has fallen to just 8%, below its five-year average of 9%. Furthermore, while defaults in the U.S are at their lowest since 2011, year-to-date defaults in emerging markets are at their highest since 2009.

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How have ratings performed during previous periods of market volatility?

Prior bouts of market volatility, at least in the U.S. and defined using the VIX, have at times led to increased credit deterioration (see chart 8), though this relationship is far from precise. Large downgrade cycles have been preceded by either acute spikes in market stress (when the VIX is above 40) or periods of heightened--if not acute--stress, like from mid-1997 to early 2003, when the VIX often averaged over 25 a month. However, smaller downgrade cycles can occur with loose lag times and sensitivity to increased volatility, such as from mid-2011 to mid-2019.

Given the level of market volatility today, it does seem the current, all-time low downgrade rate will be tested--not least because it is well below any prior minimum. This may be more likely if market volatility increases or remains elevated this year.

While we do not believe market volatility causes rating changes, we see market volatility as a response to fundamental stressors appearing or building, such as declines in corporate profits or a pending recession. In fact, each period of acute market stress has also appeared during or before a recession--the more likely the driver of ratings downgrades and defaults.

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How would a prolonged period of market volatility affect ratings?

Lower-rated issuers will be the most exposed if access to capital markets becomes restricted. Issuers in the 'CCC'/'C' category would likely be the first to be negatively impacted because they tend to have high leverage and inadequate liquidity, followed by 'B-' issuers. Globally (excluding Russia), 5% of corporate issuers are rated 'CCC'/'C' and 15% are rated 'B- ' or lower. In a period of prolonged market volatility, capital market access for lower-rated speculative-grade issuers could become a problem, with nearly 1 in 6 rated 'B-' or below.

The consumer products and media and entertainment sectors combined account for 44% of corporate issuers rated 'CCC'/'C' with negative outlooks or on CreditWatch negative globally. Strained consumer and advertising budgets are key risks for these sectors. Other sectors to watch include the automotive, capital goods, and retail and restaurants sectors, which could be pressured by persistent inflation and supply-chain issues. These three sectors combined currently account for 16% of corporate issuers rated 'CCC'/'C' with negative outlooks or on CreditWatch negative globally.

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