Fitch Ratings has published its quarterly leveraged market synopsis, the “US Leveraged Market Quarterly” report, which reviews fourth-quarter 2014 activity and previews 2015. The energy sector is highlighted in this quarter’s publication.
Sector spotlight: Oil and gas
A sharp drop in crude oil prices in fourth-quarter 2014 brought renewed focus to high yield energy credit risk. After an accommodating financing and commodity price environment through the first half of 2014, HY spreads have increased dramatically and the HY energy bond market essentially closed in the fourth quarter. Fitch expects near-term credit impacts to be varied as risks differ among energy sectors, with exploration and production (E&P) and oilfield service companies most exposed to lower oil prices.
Sustained lower oil prices in 2015 would have a dual effect on HY E&P companies, with lower cash flow leading to higher leverage, and delayed drilling plans challenging longer-term production growth. Subsequent cash flow and liquidity impacts would be largest on levered companies as they would struggle to attract capital to fund production growth. Fitch expects these companies to go into maintenance mode in the near term, drilling required wells to maintain production and hold acreage in the most economic areas in an attempt to preserve adequate liquidity. HY E&P cash balances are typically low, with firms funding new drilling largely through revolver borrowings. Bank credit facilities will take on increased importance in 2015 as a liquidity bridge towards operating cost reductions and, potentially, higher oil prices in 2016.
2015 US Corporates outlook
Outlooks broadly stable; solid economic growth forecasted: Of the 29 sectors within US Corporates, 25 have Stable sector outlooks, indicating stable industry fundamentals. Fitch forecasts the US economy will grow 3.1% in 2015 and 3% in 2016. Private consumption will be a key growth driver, supported by higher household disposable income and a strengthening labor market. This economic growth will add to improved profitability and strong credit metrics in 2015.
The US high yield default rate ended 2014 at 2.4%, its peak since 2009 but below Fitch's 35-year, 4.1% historical average.
Fitch projects that the default rate will finish in the 1.5%-2% range in 2015. Healthy non-energy company financial performance and minimal debt maturities over the next year contribute to a forecast that is in line with Fitch's historical 1.9% median rate over the last 35 years.