WEEKLY MARKET OUTLOOK OCTOBER 26, 2017 CAPITAL MARKETS RESEARCH Moody’s Analytics markets and distributes all Moody’s Capital Markets Research, Inc. materials. Moody’s Capital Markets Research, Inc is a subsidiary of Moody’s Corporation. Moody’s Analytics does not provide investment advisory services or products. For further detail, please see the last page. Higher Bond Yields Could Depress Share Prices Credit Markets Review and Outlook by John Lonski Higher Bond Yields Could Depress Share Prices. » FULL STORY PAGE 2 The Week Ahead We preview economic reports and forecasts from the US, UK/Europe, and Asia/Pacific regions. » FULL STORY PAGE 5 The Long View Check our chart here for forecast summaries of key credit market metrics. Full updated stories, “For the corporate bond market, interest rate risks now outweigh credit risks,” begin on page 16 . » FULL STORY PAGE 16 Ratings Round-Up by Njundu Sanneh More Positive in US and Europe. » FULL STORY PAGE 20 Market Data Credit spreads, CDS movers, issuance. » FULL STORY PAGE 22 Moody’s Capital Markets Research recent publications Links to commentaries on: Spain, upside surprise, bulls, less fear, Fed & BoJ, inflation, market triggers, hurricanes, data in sync, Harvey, inflation, yields, Korea, jobless rate, spreads, Saudi Arabia, lending, El Salvador, liquidity, CreditEdge, European credit, rates, sov risk. » FULL STORY PAGE 26 Credit Spreads Investment Grade: Year-end 2017 spread to exceed its recent 105 bp. High Yield: After recent spread of 345 bp, it may approximate 400 bp by year-end 2017. Defaults US HY default rate: Compared to September 2017’s 3.3%, Moody's Default and Ratings Analytics team forecasts that the US' trailing 12-month high-yield default rate will average 2.3% during 2018’s third quarter. Issuance In 2016, US$-IG bond issuance grew by 5.6% to a record $1.412 trillion, while US$-priced high-yield bond issuance fell by -3.5% to $341 billion. For 2017, US$-denominated IG bond issuance may rise by 5.4% to a new zenith of $1.488 trillion, while US$-priced high-yield bond issuance may increase by 27.6% to $434 billion, or a tad under 2014’s $435 billion record high. Click here for Moody’s Credit Outlook, our sister publication containing Moody’s rating agency analysis of recent news events, summaries of recent rating changes, and summaries of recent research. Moody’s Capital Markets Research Weekly Market Outlook Contributors: John Lonski 1.212.553.7144 john.lonski@moodys.com Njundu Sanneh 1.212.553.4036 njundu.sanneh@moodys.com Franklin Kim 1.212.553.4419 franklin.kim@moodys.com Yuki Choi 1.212.553.0906 yukyung.choi@moodys.com Moody's Analytics/Europe: Tomas Holinka +420 ( 221) 666-384 Tomas.holinka@moodys.com Barbara Teixeira Araujo +420 (224) 106-438 Barbara.TeixeiraAraujo@moodys.com Moody's Analytics/Asia-Pacific: Katrina Ell +61 (2) 9270-8144 katrina.ell@moodys.com Editor Dana Gordon 1.212.553.0398 dana.gordon@moodys.com CAPITAL MARKETS RESEARCH 2 OCTOBER 26, 2017 CAPITAL MARKETS RESEARCH / MARKET OUTLOOK / MOODYS.COM Credit Markets Review and Outlook Credit Markets Review and Outlook By John Lonski, Chief Economist, Moody’s Capital Markets Research, Inc. Higher Bond Yields Could Depress Share Prices Any analysis regarding the appropriate valuation of a long-lived asset must account for the influence of interest rates. All else the same, a rise by the interest rates of lower-risk debt obligations, namely US Treasury debt, will reduce the prices of other financial and real assets. Whenever asset prices defy higher interest rates and rise, a worrisome overvaluation of asset prices may be unfolding. Today’s high price-to-earnings multiples of equities and narrow yield spreads of corporate bonds have increased the vulnerability of financial asset prices to a widely anticipated climb by short- and long-term Treasury yields. As of 2017’s third quarter, the market value of US common stock was 15.4 times as great as the prospective moving yearlong average of US after tax profits. Third-quarter 2017’s ratio of common equity’s market value to yearlong after-tax profits was the highest since the 16.2:1 of second-quarter 2002. More importantly, the ratio last rose up to 15.4:1 in first-quarter 1998 and would ultimately peak at the 26.0:1 of third-quarter 2000. Stocks may be richly priced relative to after-tax profits, but that does not preclude a further overvaluation of equities vis-a-vis corporate earnings. (Note that the measure of after-tax profits employed in this discussion is from the National Income Product Accounts, excludes changes in the value of inventories and some extraordinary gains and losses, and uses economic depreciation instead of accounting depreciation.) Today’s equity market differs from that of 1998-2000 for reasons extending beyond 1998-2000’s average aggregate price-to-earnings ratio (P:E) of 21.2:1, which