Market Extra: Fed actions in corporate debt point to crisis averted, for now
The Federal Reserve found a way to help restore calm to the booming U.S. corporate debt market during the pandemic.
Dangle a big $2.6 trillion pot of emergency funds in front of U.S. companies, Wall Street dealers, states and cities and more, just in case things get worse.
Last week, when the Fed embarked on its first foray into buying existing shares of exchange-traded funds, or ETFs, it added $305 billion in its first two days to its near $7 trillion record balance sheet.
At that pace, BofA Global Research analysts estimate the Fed could purchase $30 billion worth of ETFs through the program’s Sept. 30 deadline for funding.
But will it even need to?
“You certainly can’t claim the primary market is dysfunctional anymore,” said David Del Vecchio, portfolio manager, U.S. investment grade corporate bonds, at PGIM Fixed Income, of the corporate bond market’s swift rebound from shocks felt as the coronavirus deepened its hold in the U.S.
He pointed to a “wide open” market for highly rated U.S. companies to borrow in the bond market, since the Fed unveiled plans in late March to start buying corporate debt for the first time in history.
Investors also piled into U.S. stocks Monday, with the Dow Jones Industrial Average DJIA, +3.82% up more than 900 points, amid signs that the American economy has begun to percolate again as more states reopen, air travel picks up and work continues toward a COVID-19 vaccine. Benchmark 10-year Treasury yields TMUBMUSD10Y, 0.720% also rose to 0.72.
After a blistering few months, June is expected to see only $100 billion to $120 billion worth of U.S. investment-grade corporate bond issuance, still on pace for a record $1.2 trillion in supply in the first half of the year, according to BofA Global data.
Bond spreads, a key barometer of risk appetite, also have recovered significantly from their recently widest levels of mid-March.
The rally also has reached the $1.3 trillion high-yield (or junk-rated) U.S. corporate debt market, which got a needed shot in the arm in mid-April, when the Fed expanded its corporate aid to include riskier assets.
“The market effectively righted itself,” said Peter Schwab, portfolio manager of the Pax High Yield Bond Fund at Impax Asset Management.
Schwab added that high-yield issuers have been able to “buy themselves more time, which they very well may need,” even though Fed purchases thus far have been limited.
Defaults already shot up in April as more high-yield companies collapsed under their weight of their debts and lost revenue, and are anticipated to climb above 20% in the next two years.
S&P Global Ratings also warned last week it had a record 111 potential “fallen angels,” or companies on its radar globally that could be downgraded to junk status by losing their coveted investment-grade ratings, encompassing $300 billion of debt, which could swamp the high-yield bracket and create another crisis.
The Fed’s “primary” corporate credit facility to help fund highly rated companies, as well as recent fallen angels directly through the purchase of their newly issued debt, has yet to be tapped.
Gary Pzegeo, head of fixed-income at CIBC Private Wealth Management, called it a “break glass if needed,” type of Fed policy.
“Having the presence of the backstop has been more important than having the funds flow through it so far,” he told MarketWatch.