In a week filled with election takes and angst, it is easy to feel like a Zombie, but there are other things happening in the market too. We have written more than a few pieces on the so-called Zombies (defined here are companies with either a 12 month trailing operating income or net income lower than interest payments) and their seeming inability to die. And it should be said that Zombies are simply no longer an important factor in the S&P 500.
Following the Covid induced spike of 2020, the trend has been lower, much lower. That should not be overly surprising. While interest rates have spiked, revenues have as well. With nominal GDP growing rapidly, it has been a bit of an unsung ballast to the Zombies. As has the relative stability to the US consumer.
Another way of viewing the Zombies (again, this is the S&P 500 only) is to remember that the level of debt (and the corresponding interest payments) is not the only important aspect of the story. Yes, the net interest expense is much higher higher today than 10 years ago. No, the ability to cover the payments (as defined by earnings before interest and taxes) is not strained. In fact, the ability to pay has dramatically improved in recent years. That should not be forgotten among the headlines. If elevated rates and inflation could not kill the Zombies or even create more, what exactly is going to cause them to become a significant issue?
The Zombies longevity can be traced back to when much of the debt was taken on. In 2020, when in interest rates were at or near all-time lows, companies rushed to issue debt or refinance existing debt loads. That made (at least some) would be Zombies much healthier than they would have otherwise been. As interest rates rose, there was less need for debt. This kept the burdens bearable and less of an issue through the hiking cycle.
Now, interest rates are being tepidly lowered (at least on the short end) by the FOMC and inflation is moderating. The Zombies have survived. Economic growth is moderating, but not at a pace threatening a significant recession that could cause the Zombies to fall more ill or more to get sick. Looking forward, there are few reasons to fear the Zombies.