The Credit Overhang: The Differing Recovery Trajectories Of U.S. Auto Companies and Homebuilders

U.S. automakers and homebuilders both operate in markets that are highly cyclical. Each cycle has had somewhat different dynamics. However, industry specifics aside, these two sectors have generally been similarly affected by economic downturns.

In terms of credit quality, the recession that began in 2007 had severe effects on issuers in both sectors: General Motors and Chrysler declared bankruptcy, while 10 rated U.S. auto suppliers either went bankrupt or defaulted or pursued distressed exchanges. Standard & Poor’s Ratings Services also lowered its ratings on many nondefaulting auto sector companies. The distress was widespread among homebuilders as well. By year-end 2011, we had lowered our ratings on nearly all of the companies we rate. Moreover, of the 23 U.S. homebuilders Standard & Poor’s rated as of year-end 2006, almost half had payment defaults or completed distressed exchanges by the end of 2011, including three public homebuilders (TOUSA Inc., WCI Communities Inc., and Hovnanian Enterprises Inc.) and a half dozen smaller, privately held companies.

During economic recoveries, auto and home sales generally track each other closely. The aftermath of the past financial crisis and economic recession continues to weigh on both new light vehicle sales (cars and light trucks) and new home sales, given persisting high unemployment and diminished household incomes. Overall auto sales, however, have improved significantly over the past two-plus years, while the market for new single-family homes remains mired in a slump.

The uptick in auto sales, coupled with the benefits of extensive restructuring efforts at most sector companies, has rapidly strengthened the credit quality of automakers and suppliers, as reflected in successive credit upgrades. In fact, we have raised our ratings on some, but not all, auto sector companies to around pre-recession levels. Comparatively, extremely weak demand and continued pressure on pricing, and a significantly more constrained financing market, continue to impede improvement in credit quality for rated homebuilders. In looking at the conditions leading to the recent downturn, we can see why the recovery of these two sectors so far isn’t as closely correlated as it has been in the past.

Watch the related CreditMatters TV segment titled, “What’s Behind The Diverging Recovery Prospects Of U.S. Auto Companies And Homebuilders,” dated May 22, 2012. and read our full report here.

The posts on this blog are opinions, not advice.
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