Carlyle Sees Delay in Defaults Ahead Despite Central Bank Action

(Bloomberg) -- Unprecedented central bank action has pushed out a wave of defaults rather than quashed it, according to Carlyle Group Inc.

The credit market was flooded with liquidity in the early stages of the pandemic as banks in the U.S. and Europe stepped in with a “speed and ferocity we’ve never seen before,” Jason Thomas, head of global research at the $230 billion asset manager, said in an interview.

“Rather than stopping defaults or preventing defaults, they really just bent the curve down, meaning that some may have been pushed into the future,” Thomas said.

Unlike earlier crises, during which illiquidity squeezed all companies, the latest action kept all but the most underwater businesses alive. Ultimately, defaults could be slower to materialize but more numerous than in past cycles -- with a high default rate for an extended period of time, the firm said in a report detailing its 2021 credit outlook.

Despite the prospect of more distress, larger equity cushions have put credit, particularly in pandemic-resistant sectors, in a far different position than 2008.

While debt-to-earnings multiples are close to 2006-2008 levels, average equity contributions have risen to nearly 50% of enterprise value, according to Carlyle.

“Enterprise value relative to earnings has increased much more than debt relative to earnings,” Thomas said. “In our current environment, where you have this massive equity cushion, you can still lose 50% of the value of the business and still have the debt be money good.”

The unforeseeable nature of the Covid-19 crisis has made the landscape for credit unlike other cycles -- since there are now opportunities in fast-growing sectors co-existing alongside distress-for-control situations. There are spaces like retail and energy that went into the crisis in distress, businesses that may or may not be able to repay the large amounts they borrowed, and fast-growing areas like technology and health care that have flourished amid the pandemic, according to Thomas.

“The number one takeaway is that 2020 has had a little bit of everything and it defies the classical cyclical characterization,” he said.

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