Dive Brief:

• A weakening global economy and the possibility of a U.S. recession pose “a key and growing risk” for revenues, profit margins and cash flows at U.S. companies outside the financial sector, according to Fitch Ratings.
• Wage inflation, persistent disruption to supply chains, potential difficulty passing on cost increases to consumers and high commodity and raw material prices especially challenge airlines, homebuilders and building products companies, Fitch said.
• “We expect demand erosion to become a moderate but manageable credit risk for 11 of the 15 sectors highlighted in 2023 and 2024, due largely to rising interest rates,” Fitch said. “Rising raw materials/commodity costs will remain the most common (12/15 sectors) moderate to material credit profile risk across sectors during 2023-2024.”

Dive Insight:

CFOs trying to assess demand for their companies’ goods and services during coming quarters confront a wide range of signals about the economy’s health.

They can find encouraging signs from July data. Price pressures slightly eased and employers far exceeded forecasts for hiring, pushing down unemployment to 3.5%. Gas prices have fallen 11% during the past month, easing the burden on consumers.

Also, by one measure at least, profits during the second quarter were robust, suggesting that companies were able to pass on to consumers the rising cost of labor and materials. Profits of domestic non-financial corporations rose $173.9 billion during the period compared with a $4.8 billion decline during the first three months of the year, the Commerce Department said Thursday.

Yet U.S. companies confront underlying threats to sustained profits margins. Russia’s invasion of Ukraine has pushed up the price of energy and commodities, stoking the highest inflation in four decades and adding urgency to efforts by the Federal Reserve to slow price gains by raising the benchmark interest rate from a record low.

Fed tightening has increased the odds of recession and inhibited risk taking, triggering financial market volatility, jarring the housing market and ending a boom in mergers and acquisitions.

The U.S. may already be undergoing a downturn. The economy shrank 0.6% during the second quarter after slumping 1.6% during the first three months of 2022, meeting the common definition of a recession as at least two consecutive quarters of negative growth.

Gross domestic product will likely expand 2.9% this year, 1.5% next year and 1.3% in 2024, Fitch said in another report, forecasting that growth will “slow to barely positive from mid-2023 due to aggressive monetary tightening.”

“Lower demand, due to weakening global economic growth and a potential U.S. recession, is a key and growing risk for U.S. non-financial corporate revenue, margins and cash flows,” Fitch said.

The credit outlook for most sectors is solid, Fitch said. “Demand erosion should have minimal impact on most sector credit profiles in 2022, given consumer strength, but may be more of a risk in 2023/2024, particularly for homebuilders, as interest rates rise.”