Credit will remain tight in 2008, but equities should hold up, predicts rating agency DBRS.

The firm issued a report today, reviewing the turbulent 2007, and looking ahead to the coming year. The report notes that corporate ratings in the financial sector, particularly in structured finance, were most affected by the worldwide credit crunch. However, it says, that rating activity in the corporate universe was consistent in 2007 compared with prior periods, with 91 ratings changes, including 36 upgrades and 55 downgrades.

“The financial services, forestry and retail sectors saw the greatest level of downgrade activity,” the study notes. “This was largely attributable to a weakening U.S. economy in late 2007.”

Positive factors in 2007 included growth in emerging markets, high commodity prices, strong corporate balance sheets and moves by the world’s central banks to inject liquidity into the system, the firm notes.

However, it says that the credit crisis highlights the degree of linkage in today’s global economy. “Few could have foreseen that such a small component of the U.S. housing sector would essentially shutdown North American and European fixed-income markets,” says Peter Bethlenfalvy, group managing director, Global Corporate Finance, DBRS.

Looking forward, DBRS expects that a weaker U.S. economy will contribute to a higher proportion of downgrades in 2008, likely concentrated in the financial services sector, which has the greatest level of exposure to the U.S. housing market. “Other sectors that could come under pressure include auto and auto parts, retail and forest products,” adds Bethlenfalvy. “However, credit quality in the mining, oil and gas and oilfield services sectors should remain strong, benefiting from ongoing strength in commodity prices.”

The contraction of credit is expected to continue through 2008, and the US is expected to experience some degree of stagflation, DBRS predicts.

However, it adds that, “the global stock market boom is expected to continue through 2008, which should help mitigate the severity of an economic slowdown in the United States. China remains the wild card in this potential scenario, as rapid growth in its stock market has created bubble-like conditions.”