What Will A Trump Administration Mean For Credit Risk?

What Will A Trump Administration Mean To Credit Risk?

The inauguration is just a day away, and the tumultuous transition is finally at an end. We're keeping a close eye on our Twitter feed, and watching for any new surprises!

Among other things, the new administration’s economic policies will most certainly impact credit. And while we haven’t been invited to Trump Tower yet, here's the likely impact, with regard to managing risk in the year ahead.

Economic Projection: Continued GDP Growth

First, the good news: The new administration is inheriting an economy that has strong momentum. 

Recent signs of economic growth include: GDP growth, low unemployment, wage and household income growth, as well as a steady uptick in manufacturing activity, corporate profits, and other positive economic indications.

We’re also happy to report that all five economists who shared projections in the CRF’s recent Special Report: Annual Economic Projections for 2017, estimate that the U.S. economy will continue to grow, and the rate of GDP growth will pick up next year.

New Policies, Credit Risk Concerns

Of course, there are still lots of questions.

What policies will the incoming Trump team implement right away? How cooperative will Congress be?  Will PE Trump risk a trade war? What about the response of our global trading partners?

Despite the uncertainty, here are six areas to keep an eye on:

1. Interest Rate Hikes, Monetary Policy

The Fed has already begun tightening, and we can expect between 2-4 rate hikes during 2017. If the economy really heats up, or inflation picks up, they will raise rates even faster. Borrowing costs for business haven’t gone up much … yet.

What it means for credit:
As borrowing costs rise, financially distressed companies will have a harder time refinancing and servicing debt. For 2017, S&P Global Ratings forecasts more debt rating downgrades than upgrades. Continue to watch counterparty balance sheets, liquidity, and refinancing needs.

2. New Trade Deals, Protectionist Trade Policies

One of President-elect Trump’s important priorities is to renegotiate trade deals currently in place, to help U.S workers and industries. But in a global economy, this could provoke reactions from trade partners. More protectionist trade policies could hit both the top and bottom line for importers and exporters alike.

What it means for credit:
New trade deals – and the potential for a trade war with China or others –  hurt two types of counterparties. Those that rely on exports for a substantial part of their revenue may be squeezed, as their products become more expensive in foreign markets. Their sales may drop, or if prices are lowered to maintain margins, profits may decline. On the flip side, new U.S. tariffs or a border tax on imports may raise costs and squeeze margins on importers such as apparel manufacturers and retailers. Keep a close eye on trade policy: NAFTA, RCEP and more.

3. A Stronger U.S. Dollar

The stronger dollar makes U.S. manufactured goods more expensive abroad, as exports become less competitive in foreign markets. As a result, sales may suffer. On the flip side, imports become cheaper, meaning there’s more competition for U.S. made goods here at home.

What it means for credit:
A stronger USD has likely already impacted your counterparties’ financial results, especially domestic manufacturers and others who rely on exports, such as farm products and related industries. On the flip side, global supply chain costs may benefit. Talk to your counterparties about the anticipated financial impacts to both sales and profit forecasts.

4. Industries Targeted for Reform and Deregulation

One of the first priorities of a Trump administration is to repeal and replace the ACA  (Affordable Care Act). The President-elect is also on record calling for environmental deregulation, and less regulation in general.

What it means for credit:
New bidding procedures and other healthcare reforms will likely put downward pressure on profit margins for Pharma and other Healthcare-related companies. On the other hand, highly regulated industries, such as energy-related commodities, are expected to benefit. For counterparties in these sectors, anticipate regulatory changes, and question how they will impact financial results.

5. Deficit-Financed Government Spending, Fiscal Stimulus

When it comes to defense and other federal budget line items, as well as new infrastructure, the issue is always how to pay for it. The consensus is that new spending of whatever magnitude will continue to be deficit-financed.

What it means for credit:
The impact of increased government spending is less straightforward and harder to anticipate. Debt is already at historic levels, limiting on how much new debt can be added. New borrowing will impact financial markets in other ways that are hard to predict, narrowing or widening credit spreads, affecting currencies, and more. Given all the factors at play, keep your eye on factors closer to your control, as this one plays out.

6.  Tax Reform, Corporate and Personal Tax Cuts

Markets have already factored in tax cuts and other expected policy changes, as the ‘Trump Bump’ clearly shows. The politics involved in reforming tax policy are another story.

What it means for credit:
No one disputes that tax cuts will be positive for consumer spending, business investment, and corporate profits. But depending on how this policy actually unfolds, and when (i.e., whether any tax cuts are retroactive), the true economic results may not be seen until 2018. This should eventually be a net positive for your counterparties, but rising interest rates, the strong U.S. dollar and other reforms are likely to have a more immediate impact on your customers.

Practical Advice For Credit Professionals

Financial professionals need to focus on the real economy, not speculation. 

And while it’s impossible to know the precise changes that are on the economic and political horizon, you don’t have to know the details, to plan for them.

Here are some specific actions you can take, to stay ahead of risk:

  • Watch highly leveraged counterparties who may have difficulty servicing debt or refinancing, as interest rates rise.
  • Follow new trade policy developments, and talk to affected customers about how any new trade deals will impact their business.
  • Pay special attention to the impact of deregulation on pricing, revenues and margins, for customers in targeted industries.
  • Use a reliable financial risk score like the FRISK® score, coupled with close portfolio monitoring, for an early heads up of growing credit risk. As always, an ounce of prevention is worth a pound of cure.
  • Talk to your customers, watch their financials like a hawk, and make sure your credit risk monitoring process is up to the challenge.
     

Undoubtedly, there are more surprises in store, that will keep us all on our toes in 2017. Read your Twitter feed closely for new developments, and stay tuned!

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