Apple, Microsoft, Alphabet and other corporate giants have huge bond holdings. Here's why this is a problem

By Lira Mota

Non-financial companies are important players in financial markets and can cause large price fluctuations, volatile markets and even bank failures

Marketable securities, not cash as usually assumed, account for most of the growth in financial assets of corporate giants.

When a major bank collapses, concerns about the stability and resilience of the financial sector inevitably quickly arise again. Policymakers, regulators and investors will ask: What regulations can be adjusted or new ones introduced to prevent future defaults, reduce volatility and protect the financial system as a whole?

After the collapse of Silicon Valley Bank (SVB) in March 2023, the US Federal Reserve began investigating the reasons for it. In the wake of the failures, the Fed is attempting to strengthen banks' liquidity and capital positions and, along with the FDIC, subject regional banks to long-term debt requirements and resolution planning.

However, when it comes to real changes to support the financial system, corporate giants cannot be ignored because of their potential impact on investors and the economy.

Corporate giants like Apple (AAPL), Microsoft (MSFT) and Alphabet (GOOG) are known for generating eye-popping profits. But they should also be recognized as asset managers. Over the past 20 years, corporate giants have quietly become major players in financial markets, with large and complex financial portfolios. Marketable securities, not cash as usually assumed, account for most of the growth in financial assets of corporate giants.

In our research, my co-author and I collected data on the financial portfolios of the 200 largest companies in the United States from 2000 to 2021. We found that their total financial assets have increased by $1 trillion since 2007, while cash-like instruments have increased by just $350 billion. In recent years, bond portfolios – particularly corporate bonds – have been at least as large as cash holdings.

Essentially, corporate giants have become lenders in their own right, operating financial institutions within their corporate walls. This poses the potential for financial risks for both investors and financial markets, particularly given the current high level of interest rate uncertainty. The majority of these portfolios are invested in long-term U.S. Treasury bonds and corporate bonds. When interest rates rise, the value of long-term assets declines and companies may suffer significant losses on their balance sheets.

Take Apple, for example, which once had a staggering $268 billion in financial assets across many different types of assets, according to its 2017 corporate filings. About $150 billion was in corporate bonds, while $55 billion was in U.S. Treasury bonds. However, after the Tax Cuts and Jobs Act (TCJA) in 2017, a lot of money disappeared from corporate balance sheets as incentives for companies to keep retained earnings overseas diminished. Nevertheless, as reported in its last annual report, Apple currently has $160 billion in financial assets, of which $70 billion is in a portfolio of corporate bonds. These big numbers continue to secure Apple's position as one of the largest global investors in fixed income.

In 2022, when interest rates skyrocketed, the financial losses were significant. The numbers are reported as unrealized losses in comprehensive income: Apple reported losses of over $11 billion in assets, or more than 12% of its net income. For Alphabet, losses exceeded $4 billion in 2022, or 7% of net income.

Given these losses, why do corporate giants even maintain these large financial portfolios? One reason for this was cross-border tax incentives. Many multinational corporations pursue an investment-related strategy by holding them in financial assets rather than distributing them, thereby avoiding US tax charges. At the end of 2017, an attempt was made to curb this behavior with the passage of the Tax Cuts and Jobs Act (TCJA), with the aim of reducing tax incentives for storing assets abroad starting in 2018. Between 2017 and 2019, total financial assets fell by $400 billion. But interestingly, they didn't disappear completely, and that was especially the case for the largest companies.

Another theory suggests that corporate giants retain large inventories in the event of a financial shock. For example, during the COVID-19 pandemic, we saw a “dash to cash” and an increase in cash-like instruments amid rising uncertainty. At the same time, however, we have not observed a drastic decline in holdings of corporate bonds.

Corporate giants can also face a situation where they may need funds quickly but are unsure about borrowing at a fair interest rate. However, companies with the largest portfolios tend to have high credit ratings and are therefore less likely to need such precautionary savings measures.

While the “why” behind these large portfolios is still unclear, the fact remains that the vast holdings of corporate giants are not as transparent as those of banks and other large bondholders such as mutual funds and insurance companies. Their losses are also much more opaque, in part because traditional data sources like Bloomberg, FactSet or Compustat don't track these financial portfolios. In 2017, for example, Apple's $268 billion in financial assets that we tracked were much larger than the $75 billion in “cash and short-term investments” reported on the company's balance sheet and recorded in Compustat became.

While companies are required to disclose the face value of the financial assets they hold, they are not required to disclose this at the security level. Additionally, unrealized losses do not affect a company's reported earnings, which can hide potential risks from inattentive investors.

Looking closely at the data, it is clear that non-financial companies are important participants in financial markets and that they have the power to cause large price swings, volatile markets and even future collapses of major banks. Whether companies should provide more detailed information about their financial portfolio and its performance is up for debate. However, a more comprehensive picture could help investors better understand the risks, and greater transparency can only benefit the financial system.

Lira Mota is an Assistant Professor of Career Development, Class of 1958, at the MIT Sloan School of Management. Together with Olivier Darmouni, she is co-author of the research report “The Savings of Corporate Giants”.

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-Lira Mota

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03-09-24 0937ET

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