Press Release

Corporate Default Risk Rises as Global Growth Worries Mount
Kamakura Troubled Company Index Increases by 2.39% to 12.85%

NEW YORK, June 4, 2019: The Kamakura Troubled Company Index® ended May at 12.85%, an increase of 2.39% from the end of April. The index reflects the percentage of 39,000 public firms that have a default probability of over 1%. An increase in the index reflects declining credit quality, while a decrease reflects improving credit quality.

At the close of May, the percentage of companies with a default probability between 1% and 5% was 10.05, an increase of 1.5% from the end of April. The percentage with a default probability between 5% and 10% was 1.91%, an increase of 0.6%. Those with a default probability between 10% and 20% amounted to 0.67% of the total, up 0.2%, and those with a default probability of over 20% amounted to 0.22%, up 0.09% from a month earlier.

The index ranged from 10.31% on May 3 to 13.19% on May 13 as volatility increased to 288 basis points.

At 12.85%, the troubled company index now sits at the 42nd percentile of historical credit quality as measured since 1990. Among the 10 riskiest-rated firms listed in May six are in the U.S., with one each in Australia, Belgium, Great Britain and Spain. Pier 1 Imports (PIR:NYSE) moved ahead of Global Eagle Entertainment Inc. (ENT:NASDAQ) as the riskiest-rated firm, with a one-year of KDP of 49.91%, up 11.65% from the prior month. During the month there were six defaults in our coverage universe, with three in the US and one each in Korea, Switzerland, and Taiwan.



The Kamakura expected cumulative default curve for all rated companies worldwide showed increases at both the short and the long ends, with the one-year expected default rate increasing by 0.32% to 1.43% and the 10-year rate increasing by 0.82% to 14.4%.

Commentary
By Martin Zorn, President and Chief Operating Officer, Kamakura Corporation

The increased risk revealed by the Kamakura Troubled Company Index®reflects uncertainty in global growth expectations resulting from trade and tariff concerns. In the U.S., planned retail store closings already top 7,150, and tariff wars could inflict even more pain on this vulnerable industry segment. Interestingly, however, while the S&P 500 fell 6.6% in May, the VIX remained flat. Government bond yields fell to 20-month lows, reflecting a flight to safety. Yield on the German 10-year bund fell to -0.201%, an all-time low, while the Dutch 10-year bond turned negative for the first time since September, 2016.

The Expected Cumulative Default Rate has been showing signs of increase as we look across the term structure. Using the Expected Cumulative Curve, we can extract these one-year-forward expected defaults:

Forward One-Year Cumulative Default Rate
May 2019     1.43%
May 2020     1.86%
May 2021     1.30%
May 2022     1.21%

During the Great Recession from December 2007 through June 2009, the one-year KDP averaged 2.24% and peaked at a little over 4%. It fell as low as 0.50% during the expansionary phase. The forward one-year default rate confirms that we are late in the credit cycle, but it also implies that the coming economic slowdown with increasing defaults will not be as bad as the last cycle and will be relatively shallow, given the quick improvement in the implied rates for 2021 and 2022.

It is interesting to see how the average one-year KDP (Kamakura Default Probability) has moved relative to the credit cycle. As a proxy for the credit cycle, I have substituted the Federal Reserve’s Senior Loan Officer Opinion on Bank Lending Practices, which uses tightening and loosening standards as a stand-in for the expansion or downturn stages of a cycle.

Here we see that the average one-year KDP during the loosening period following the recession fell to 0.61% for rated firms and 0.96% for non-rated firms. Looking at the tightening period beginning in fourth quarter of 2018, the average one-year KDP for rated firms reached 1.16%, while the average one-year KDP for non-rated firms was actually slightly better, at 1.15%. Studying the movement in default probabilities by sector, country, and counterparty provides insight into the risks late in the credit cycle. We will be publishing more research on this topic soon.

About the Troubled Company Index
The Kamakura troubled company index (Reg. U.S. Pat) measures the percentage of 39,000 public firms in 76 countries that have an annualized one-month default risk of over one percent. The average index value since January, 1990 is 14.38%. Since November, 2015, the Kamakura index has used the annualized one-month default probability produced by the KRIS version 6.0 Jarrow-Chava reduced form default probability model, a formula that bases default predictions on a sophisticated combination of financial ratios, stock price history, and macro-economic factors.

The KRIS version 6.0 models were developed using a data base of more than 2.2 million observations and more than 2,600 corporate failures. A complete technical guide, including full model test results and parameters, is provided to subscribers. The KRIS service also includes a wide array of other default probability models that can be seamlessly loaded into Kamakura’s state-of-the-art enterprise risk management software engine, the Kamakura Risk Manager. Available models include the non-public-firm default model, the commercial real estate model, the U.S. bank model, and the sovereign model. Related data includes credit default swap trading volume by reference name, market implied credit spreads, and prices on all traded corporate bonds traded in the U.S. market. Macro factor parameter subscriptions include Heath, Jarrow, and Morton term structure models for government securities in the U.S., Germany, the UK, Canada, Spain, Sweden, Australia, Japan, Thailand, and Singapore. All parameters are derived in a no-arbitrage manner consistent with seminal papers by Heath, Jarrow, and Morton, as well as Amin and Jarrow. A KRIS Macro Factor Scenario Service subscription includes both risk-neutral and “real world” empirical scenarios for interest rates and macro factors.

The version 6.0 model was estimated over the period from 1990 to May 2014 and includes the insights of the entirety of the recent credit crisis. The 76 countries currently covered by the index are: Argentina, Australia, Austria, Bahrain, Bangladesh, Belgium, Belize, Botswana, Brazil, Bulgaria, Canada, Chile, China, Colombia, Croatia, Cyprus, Czech Republic, Denmark, Egypt, Estonia, Finland, France, Germany, Ghana, Greece, Hungary, Hong Kong, Iceland, India, Indonesia, Ireland, Israel, Italy, Japan, Jordan, Kenya, Kuwait, Luxembourg, Malaysia, Malta, Mauritius, Mexico, Nigeria, the Netherlands, New Zealand, Norway, Oman, Pakistan, Peru, the Philippines, Poland, Portugal, Qatar, Romania, Russia, Saudi Arabia, Serbia, Singapore, Slovakia, Slovenia, South Africa, South Korea, Spain, Sri Lanka, Sweden, Switzerland, Tanzania, Taiwan, Thailand, Turkey, the United Arab Emirates, Uganda, the UK, the U.S., Vietnam and Zimbabwe.

To follow the troubled company index and other risk commentary by Kamakura on a daily basis, please follow:

Kamakura CEO Dr. Donald van Deventer (www.twitter.com/dvandeventer)
Kamakura President Martin Zorn (www.twitter.com/riskmgrhi) and
Kamakura’s official twitter account (www.twitter.com/KamakuraCo).

About Kamakura Corporation
Founded in 1990, Honolulu-based Kamakura Corporation is a leading provider of risk management information, processing, and software. Kamakura was recognized as a category leader in the Chartis Report,Technology Solutions for Credit Risk 2.0 2018. Kamakura was named to the World Finance 100 by the editor and readers of World Finance magazine in 2017, 2016 and 2012. In 2010, Kamakura was the only vendor to win two Credit Magazine innovation awards. Kamakura Risk Manager, first sold commercially in 1993 and now in version 10.0.3, is the first enterprise risk management system for users focused on credit risk, asset and liability management, market risk, stress testing, liquidity risk, counterparty credit risk, and capital allocation from a single software solution. The KRIS public firm default service was launched in 2002. The KRIS sovereign default service the world’s first, was launched in 2008, and the KRIS non-public firm default service was offered beginning in 2011. Kamakura added its U.S. Bank default probability service in 2014.

Kamakura has served more than 330 clients with assets ranging in size from $1.5 billion to $3.0 trillion. Its risk management products are currently used in 47 countries, including the United States, Canada, Germany, the Netherlands, France, Austria, Switzerland, the United Kingdom, Russia, Ukraine, South Africa, Australia, China, Hong Kong, India, Indonesia, Japan, Korea, Malaysia, Singapore, Sri Lanka, Taiwan, Thailand, Vietnam, and many other countries in Asia, Europe and the Middle East.

To follow risk commentary by Kamakura on a daily basis, please follow:

Kamakura CEO Dr. Donald van Deventer (www.twitter.com/dvandeventer)
Kamakura President Martin Zorn (www.twitter.com/riskmgrhi) and
Kamakura’s official twitter account (www.twitter.com/KamakuraCo).

For more information, please contact:
Kamakura Corporation
2222 Kalakaua Avenue, Suite 1400, Honolulu, Hawaii 96815
Telephone: 1-808-791-9888
Facsimile: 1-808-791-9898
Information: info@kamakuraco.com
Web site: www.kamakuraco.com