Is taking on more and more debt at lower and lower interest rates a good thing? Well, it does not seem to be helping the bulk of public companies on the U.S. stock exchanges.
Consider the premier benchmark for small stocks, the Russell 2000. Their very existence may be in jeopardy if they continue to lever up to make ends meet.
Even the notion that these corporations can simply plow those borrowed dollars back into share prices is flawed. The iShares Russell 2000 ETF (IWM) has gone nowhere for three years, despite the significant increase in debt-to-earnings ratios.
Many would argue, and have been arguing, borrowing money at crazy low rates makes sense. You wouldn’t pass up the opportunity to refinance your home at 2.5% instead of 4%, would you?
On the other hand, if you have zero equity in your home, and you are unemployed, what lender would be eager to sign off on a negative amortization, cash-out refinancing? Not many.
And yet, the Federal Reserve is making it possible for small companies to do just that. Keep going without the earnings to do so.
The Fed is providing direct and indirect support for Zombie Nation — the 15%-20% of publicly-listed entities that cannot generate enough earnings to pay the interest on debts. Does Fed support alone justify investing in debt-stricken small caps?