CEO Morning Brief

Goldman Strategists Say Loss-making US Companies Face Rates Risk

Publish date: Wed, 15 May 2024, 10:46 PM
TheEdge CEO Morning Brief

(May 14): Risks are mounting for some US firms that haven’t ever turned a profit as they’re compelled to raise capital at elevated interest rates to “remain solvent,” according to Goldman Sachs Group Inc strategists.

The team led by David Kostin said the pressure was high for so-called unprofitable growth stocks — a majority of them tech-related — as they “will be forced to either find an acquiror, issue dilutive equity, or issue debt at elevated current rates” to continue operations.

Unprofitable growth stocks are only expected to generate cash flow in the “distant future,” which means that higher interest rates impose a bigger discount on the present value of their projected profits, Kostin wrote in a note dated May 10. As a result, they “face larger headwinds from an increase in the discount rate than the typical stock,” he said.

In contrast, profitable stocks may be able to fund operations through cash flows, he said. With Goldman Sachs’ economists expecting the 10-year Treasury yield to remain above 4% through 2025, the potential valuation upside for unprofitable companies would remain constrained, the strategist said.

Riskier US stocks have underperformed the S&P 500 Index this year as sticky inflation raised concerns of higher-for-longer interest rates. The worries have also hurt the small-capitalisation Russell 2000 Index, whose components have about 75% of their total outstanding debt coming due through 2029.

A Goldman Sachs basket of non-profitable tech stocks has slumped nearly 20% in 2024, while the S&P 500 is up 9.5%. Kostin said investors were punishing stocks that weren’t projected to turn a profit until after 2026 by a relatively bigger margin. The typical stock that analysts expect to become profitable through 2025, on the other hand, had fallen only 4%, the strategist said.

Kostin has taken a bullish tone on US stocks this year, saying in March that the rally in tech stocks was unlike past bubbles. The Nasdaq 100 is nearly unchanged since he published his view.

Source: TheEdge - 15 May 2024

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