The $5.6 trillion question in the stock market – Business Insider

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Corporate America has been benefiting from low interest rates, which have kept interest costs low and profit margins fat.

So, as the Fed prepares everyone for what could be an era of higher interest rates, investors are left with a big question: what does this mean for all of the debt held by corporations?

For one thing, we should remember that America’s CFOs embarked on a large-scale deleveraging of their companies’ balance sheets after the credit crisis. Scarred by the memory what happens when the credit markets freeze, executives scaled back on debt and boosted their cash hoards.

Still, $5.6 trillion worth of debt remains on S&P 500 balance sheets, and it will eventually come due. And much of it will most likely be rolled as companies refinance at whatever interest rates are in the future.

JPMorgan’s Dubravko Lakos-Bujas included this chart showing when all that debt will come due. Most companies have time to prepare for what they are likely to assume will be an environment of higher interest rates.

JPMorgan

“Interest expense as a percent of revenues should remain stable even if rates were to rise this year,” Lakos-Bujas said.

But eventually, higher rates will take a material bite out of profits.

“Assuming rates continually rise, we expect interest expense to become a gradual headwind by 2016/2017,” Lakos-Bujas said. “The low-interest-rate policy has had a material impact on S&P 500 EPS, with interest expense declining from $55/share in 2007 to around $18 in recent years. Deleveraging partially explains the decline in interest expense.

“Assuming the Fed Fund rate moves higher, we estimate the S&P 500 EPS could see a gradual headwind of $10-15 over a period of several years.”

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The $5.6 trillion question in the stock market – Business Insider