Goldman Sachs: Sovereign debt costs weigh on corporate balance sheets

Europe’s sovereign debt concerns are starting to show up in corporate borrowing costs, which could leave some companies with less cash to invest and return to shareholders, according to Goldman Sachs.

European corporate borrowers are under pressure from two directions: rising government bond yields and increased competition for capital from a surge in corporate bond issuance by U.S. hyperscalers.

Hyperscalar debt issuance is expected to rise from $250 billion in 2026 to $420 billion in 2027, Goldman Sachs said in an Oct. 23 note, while global artificial intelligence project financing could double to $300 billion as tech giants increasingly rely on the bond market to finance ramped-up AI investments.

The background to this is the rise in global borrowing costs. yield French 10 year government bondKnown as OAT, it exceeded 5% on October 21st for the first time since 2002. German Bundesbond 10 Year Bond It peaked at more than 177 basis points the next day, amid concerns about the risk of spillover to other parts of Europe.

Developed countries including the United States, Britain and Japan are facing similar borrowing pressures this year.

Goldman analysts said rising interest costs are starting to weigh on corporate profits as credit conditions tighten.

They noted that European investment-grade yields have risen by about 30 basis points since early September to 4.4%, and the spread over the sovereign risk-free rate has widened by about 24 basis points to 117 basis points.

At the same time, high-yield borrowing costs increased by about 90 basis points to 7%, and spreads widened by 94 basis points to 354 basis points.

Interest expense increased from 1.25% to 1.85% of sales. Stocks 600 Goldman said steadily rising refinancing costs are making it difficult for companies to raise capital beyond 2022. The 60 basis point increase reduced profits by more than 5% in the same period, the bank’s analysts said.

The burden could be even greater for companies that are nearing maturity dates or have borrowing costs that are reset by interest rates.

“The average maturity of the Stoxx 600 corporate bonds is about seven years, with one quarter of those bonds needing to be refinanced within the next two years, and another quarter of them floating-rate,” Goldman analysts said.

“Rising interest rates could therefore result in around half of the debt being repaid relatively quickly,” they noted.

That leaves companies with weak cash generation, limited pricing power, short-term refinancing needs and large variable-rate debt at particular risk, Goldman analysts said. “Rising yields will increase funding costs, while widening spreads will further increase pressure on companies facing short-term refinancing demands.”

This pressure may force some executives to prioritize balance sheets over other uses of cash.

“As a result, management may become more focused on deleveraging, potentially diverting capital from investments and shareholder returns,” the analysts said.

Goldman analysts said they do not expect a “systemic credit event” and noted that easing commodity prices, easing inflation and interest rates, and improving growth in 2027 should help ease balance sheet stress.

Rather, they see rising debt costs as a “constraint to growth” for some companies, especially as slowing earnings momentum creates new headwinds.

Goldman expects earnings growth in Europe to be less than 10% next year, down from about 20% this year, and in the U.S., from more than 30% to less than 15%.

Mike Bell, head of market strategy at RBC BlueBay Asset Management, said higher borrowing costs were unlikely to be a major issue for investment-grade corporate borrowers.

But he cautioned that the changes will increase the need for investors to be more selective about high-yield credit.

“In our view, the primary implication of rising bond yields is that the yields currently available on government bonds, investment-grade corporate bonds, securitized credit, and some high-yield credits look increasingly compelling on a risk-to-reward basis relative to equities,” Bell told CNBC in an email.

“We would encourage multi-asset investors to consider what they realistically expect for U.S. equities over the next few years, starting with the currently elevated cyclically adjusted price-to-earnings ratio (P/E) starting point, and then compare that expected stock return to the yields available across the fixed income universe,” Bell said.

“In doing so, it seems like bonds are starting to look increasingly attractive compared to many developed market equities.”