The Fed’s Corporate Bond-Buying Has Been Relatively Small And Positively Useless
Don’t fight the Fed. I remember hearing the legendary Wall Street guru Marty Zweig say this, and I was even fortunate to meet him and hear it in person. The equity markets have taken this to heart with the breathtaking rally from the Covid-19 lows of March 23rd. Jerome Powell and Steven Mnuchin, Federal Reserve Chair and Treasury Secretary, respectively, made it known that they would provide ample liquidity to get the U.S. economy through the Covid-19 liquidity crisis.
The stock market bottomed with the announcement that The Fed would purchase fixed-income ETFs (LQD for high grade bonds and HYG for high-yield bonds are the largest) and then took another leg up on June 15th when the Fed announced it would also purchase individual corporate bonds.
The Fed’s initial announcement promised a bazooka of liquidity with a total of $75 billion in Fed investment levered 9-1 to produce a $750 tsunami of liquidity to support that effort. Unsurprisingly, the reality has not matched the hype.
The Fed’s weekly balance sheet release from last Thursday showed assets of the combined bond-purchase facilities (Secondary Market Corporate Credit Facility, SMCCF, and Primary Market Corporate Credit Facility, PMCCF, in Fed-speak) at a mere $42.644 billion. Facility purchases were only $10.7 billion, with the remaining $31.9 billion categorized among “Treasury contributions and other assets” of those dedicated funds.
So, is Powell’s $750 million bazooka really an $11 billion pea shooter? Yes, and for the simple reason that the 794 companies that make up the NY Fed’s Broad Market Index—forming the universe of bonds that could directly be purchased as well as the vast majority of the holdings of HYG and LQD—simply don’t need the money.
A quick check of Bloomberg data shows that the Fed is buying bonds of very liquid companies. The SMCCF shows a heavy bias toward auto companies, not surprising as those entities typically finance consumer purchases through captive finance subsidiaries and thus are frequent issuers of bonds. Volkswagen, Verizon VZ , Apple AAPL , Daimler, GM, and Toyota comprise the top six holdings among the individual bonds owned by the SMCCF.
The Fed is inflating bond prices and reducing the spreads investors in the secondary bond market are paying to assume the increased risk for holding corporate securities versus holding U.S. Treasuries.
That doesn’t create a single job (except maybe at BlackRock BLK , the firm administrating the credit facilities on behalf of the NY Fed) and that has done almost zero to “save” the U.S. economy. The fact that the combined credit facility is running at less than 10% of its nominal capacity is prima facie evidence that it wasn’t needed in the first place. It also shows that the stock market’s Pavolvian response to Fed stimulus has been a tad overdone.
So, as so often happens with this market, we are talking about much ado about nothing. As someone who owns two small business I don’t mean to demean the Fed’s Main Street Lending Facility and other programs aimed at helping SMEs through this unprecedented crisis. Unlike the Treasury’s PPP loans, though, the Fed’s Main Street loans are NOT forgivable. With only $37.5 billion in assets as of last week, however, the Fed’s facility dedicated to lending to Main Street is much smaller than the $42.6 billion facility dedicated to supporting Wall Street via higher bond prices.
I am not surprised by that. Are you?