A gradual hike in interest rates would increase the cost of borrowing for US companies, likely resulting in lower profits and slower growth, according to Fitch Ratings.
But while higher rates would cause some discomfort, Fitch continues to believe a gradual rise would have limited impact for U.S. corporate credits as a whole, given the offsetting backdrop of US economic growth and aggressive refinancing by most corporates over the last few years that has resulted in maturities being pushed out with low-coupon, long dated debt.
In contrast, under our stress case scenario, rapid interest rate increases by the Federal Reserve would put additional pressure on credit metrics and could prompt more rating changes. Our stress case scenario includes more rapid rate increases, a choking off of near-term credit, a flattening of the yield curve and a spike in inflation. Against a backdrop of increased M&A activity, interest rate pressure could also impair the financial flexibility of buyers as acquisitions become more expensive to finance.
The ability to handle interest rate increases varies by corporate sector. U.S. Corporate sectors with cost recovery mechanisms (utilities, master limited partnerships (MLPs)) or strong pricing power (aerospace and defense, engineering and construction) are generally among those best able to counter the challenges in the stress case stemming from faster rising inflation and interest rates, while sectors with limited pricing power(such as homebuilders) may encounter more issues.
The secondary effects of a stress scenario are also important, as rising rates in a stagnant economic environment are likely to dampen equity values. Sectors where ongoing access to capital markets is critical for funding growth (REITs and MLPs) are likely to be especially sensitive to the stress scenario, given their high distributions and limited ability to retain cash.
