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Safety Stocks

Mind the Debt

15 April 2018

1 min read

Debt Matters for Stocks in Rising-Rate Environment

Sector data as of March 31, 2018; returns as of April 10, 2018
Past performance and current analysis do not guarantee future results.
US stocks are based on companies listed in Russell 1000. European stocks are based on companies listed in MSCI Europe. Japanese stocks are based on companies listed in MSCI Japan.
*Hedged equity returns of high-leverage and low-leverage companies. High leverage is the top quintile of companies measured by net debt/equity and low leverage is the bottom quintile of companies based on net debt/equity. Net debt/equity is the total of long-term and short-term debt minus cash and cash equivalents divided by the book value of the company’s equity.
†Sector debt to equity is the equally weighted average of net debt/equity as described above for each company in the sector. Sector beta is based on the average trailing 60-week beta of each stock within a sector, equally weighted. Sector classifications are based on Global Industry Classification Standard (GICS).
Source: MSCI, Russell Investments, S&P Compustat, Worldscope and AllianceBernstein (AB)

Nelson Yu| Head—Equities

Rising rates are adding new risks to equity markets. Stocks of companies that are saddled with debt have underperformed recently. And leverage is especially high in sectors widely seen as safe havens.

Historically low interest rates have been the norm for more than a decade. When borrowing was so cheap, investors paid relatively little attention to company debt levels. But things are changing.

Our research shows that stocks of companies with high debt ratios underperformed low-leverage stocks in the US, Europe and Japan during the first quarter (Display). Some heavily indebted sectors such as utilities, real estate and consumer staples actually have the lowest beta, meaning they tend to fall less when markets decline and are perceived as relatively safe. In contrast, riskier sectors with beta above the market (greater than 1.0), such as technology and financials, have negative debt positions because they are well capitalized and flush with cash.

Maybe it’s time for investors to abandon the old safety playbook and rethink what defines a risky stock. Beta alone tells a partial story. Investors who seek protection from market volatility in “safety” sectors may find themselves exposed to new risks from rising rates.

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AB portfolio-management teams.

About the Author

Nelson Yu

Nelson Yu is a Senior Vice President, Head of Equities and a member of the firm’s Operating Committee. As Head of Equities, he is responsible for the management and strategic growth of AB’s equities business and investment decisions across the department. Since 1993, Yu has experience generating investment success in global equity markets by joining fundamental research with rigorous quantitative methods. He joined AB in 1997 as a programmer and analyst, and served as head of Quantitative Equity Research from 2014–2021. Since 2017, Yu also served as head of Multi-Style Core Equity strategies, with over $10 billion in assets. Most recently, he was CIO of Equities Investment Sciences and Insights, which brings together resources across Data Science, Quantitative Research, Advisory Services, Risk and Global Execution to deliver differentiated capabilities and insights to AB’s equities investment platform. Prior to joining AB, Yu was a supervising consultant at Grant Thornton. He holds a BSE in systems engineering from the University of Pennsylvania and a BS in Economics from the Wharton School at the University of Pennsylvania. Yu is a CFA charterholder. Location: New York

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