Fed to Stay Full Throttle With Credit Support

Jun 8, 2020 | Economic Collapse

The Federal Reserve may have stoked one of the strongest corporate debt market rallies in decades, but it’s too soon to declare an all-clear for credit with the economy facing a potentially rocky road ahead.

Sure, U.S. investment-grade borrowing costs have retreated to near all-time lows, and companies have sold $1 trillion of bonds at the fastest pace on record — evidence that merely announcing a plan to pump liquidity into corporate debt markets has helped ease strains before barely a dollar of central bank money was deployed.

But the Fed’s emergency pandemic lending programs are just getting started. Chairman Jerome Powell is expected to repeat that the Fed will deploy its full suite of liquidity backstops when he addresses reporters Wednesday after a two-day policy meeting — even if there is little need for some at the moment.

There are also worries that the economy could drag as double-digit unemployment punches holes in consumer demand and corporate revenue growth. Even though the labor market performed better than expected in May, unemployment at 13.3% is well above the peak of the last recession.

Central bankers are likely to remain undeterred in both their credit and monetary policy support until the jobless rate gets closer to their full employment estimate of 4.1%. Fed officials will publish new forecasts this week.

Not Time

“What the Fed has done is prevented an economic crisis from becoming a financial crisis,” said Julia Coronado, founding partner of MacroPolicy Perspectives LLC and a former Fed economist. “They won’t say it is time to start pulling back. They won’t take it for granted when they see the playbook worked.”

The Fed still has to roll out key components of its corporate credit programs, and officials could stoke the rally further if they announce a decision to ramp up Treasury purchases.

Current Fed government bond buying is to ensure market functioning. But officials could shift purchases toward deliberately stimulating demand in the economy, compressing returns on risk-free Treasuries and sending investors scurrying into higher-yielding debt.

‘Belt and Suspenders’

“The programs are doing a lot of work on the credit spreads, but the total cost of finance includes the spread on the risk-free rate,” said Michael Feroli, chief U.S. economist at JPMorgan Chase & Co. He said the Fed will adopt a “belt and suspenders” approach to continued credit easing policies and announce a program of $80 billion per month in longer-term Treasury purchases sometime over its next two meetings.

The Fed announced two corporate credit facilities March 23 of up to $750 billion, taking a radical step into direct finance of large companies. Since then, investment-grade and high-yield companies have gone on a record-breaking borrowing spree, taking advantage of robust investor demand that the Fed also encouraged.

The Primary Market Corporate Credit facility will buy bonds directly from companies, as well as slices of syndicated loans. That program is expected to launch in the next couple of weeks, according to people familiar with the matter.

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