Recent Fiscal Talk Meets Declining Company Revenues: Cost of Capital

Widening Credit Spreads Are Supported By Declines In Company Financials

Of notice are current credit spread increases associated with serious winds out of Europe and other matters. Currently, credit spreads are increasing in recognizable terms. Such increases can be noise, or a real deal on market moves. Due to last quarter's moves in fundamental financial performance of companies, namely disappointing sales results, widening spreads aren't surprising. Credit spreads, company sales and sovereign debt all appear correlated.

Credit spreads have been in a condition of widening since October. But over the last few trading sessions, spreads have been moderating. Encouraging in this regard are optimistic market responses brought by politicians addressing U.S. fiscal issues. Because fiscal approaches right now are nascent and undefined, strong market responses seem a little irrational.

Fiscal Talk Starts An Economic Anchor, But For Fundamental Conditions To Improve, The Anchor Must be real  

Where central banks have held the dike, giant leaks are showing not necessarily in company earnings, but in sales, and cash flow. Inevitably declines in revenue and cash flow can appear in considerable earnings disappointment. We are seeing this progressing weakness in most recent reports on earnings.

Company revenue and cash flow issues certainly threaten investor expectations of increased dividends and share buy backs, let alone capacity for fundamental or organic growth. Despite very low interest rates, when declines in revenue are experienced, cost of capital for companies increase especially on the equity side.

Increased cost of capital diverts management's attention to transitioning into cheaper capital, being debt currently given low growth prospects longer term. Cost of debt needs to stay stable. Stability in this area should enhance return rates, confidence and make equity pay. Equity pays only with higher rates of organic business growth. 

Equity comes with increased risk over prioritized debt.

Company Revenues Take Time, Political News Cycles Occur Overnight

What took time to develop was company weakness in revenues and cash flow. What hasn't taken time is  lots of optimistic buying due to fiscal lip service. Company financial statement fundamentals remain necessary for business function, let alone equity growth.

U.S. has an interest rate on its debt not deserved by its fiscal situation. A Q4 question is whether equity prices are reaching a similarly undeserved level, given increased prices of equity due to declining fundamental growth.

Worry exists that news cycle flashes will only create an illusory solution. Should markets respond on illusory lip service....too much encouragement grants a license for continued talk.