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9 Apr, 2020 23:35

Fed’s latest $2.3tn bailout unleashes it on US junk bond market while Main Street continues to languish

Fed’s latest $2.3tn bailout unleashes it on US junk bond market while Main Street continues to languish

The Fed has unveiled yet another $2.3 trillion coronavirus bailout, revealing it will purchase even recently-downgraded junk bonds in the quest to jump-start the economy, amid worries the measure will do nothing for Main Street.

The latest liquidity blitz from the Federal Reserve, unveiled on Thursday, allows the de facto US central bank to purchase junk-rated corporate debt, so long as it was rated BBB- or above (the cutoff for what is considered investment-grade) as of March 22. So-called junk high-yield bonds are designated as such due to a high risk of default and reflect a rating agency’s low confidence in a corporation.

Through its Primary and Secondary Market Corporate Credit Facilities, special-purpose vehicles (SPVs) set up to purchase corporate debt as part of last month’s mammoth coronavirus bailout bill, the Fed can purchase up to $750 billion in bonds – including, now, junk bonds – with purchasing power leveraged off $75 billion in capital. While it won’t get as much for its dollar on the high-yield market as it can on the investment-grade – a leverage of 7 to 1 as opposed to 10 to 1 – taxpayers will ultimately be on the hook if that high-risk debt defaults.

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Betting the country’s future on sub-investment-grade debt has worried those who were already eyeing the Fed’s liquidity bonanza skeptically. But the media insist there’s nothing wrong with lending a helping hand to so-called “fallen angels” – corporations that have seen their debt downgraded from BBB- to junk – or even exchange-traded funds that focus on high-yield debt, an even riskier investment. 

Given the sinkhole that the coronavirus-triggered shutdowns opened up in the middle of the US economy, it isn’t just fly-by-night corporations that risk having their bonds downgraded, of course. Some 47 percent of the bond index currently considered investment-grade is made up of companies whose debt is rated three or fewer levels above junk, and one of the “fallen angels” likely to see investment by the Fed’s new Special Purpose Vehicle is Ford Motor Company.

Some investors have suggested that this unprecedented move amounts to nothing short of an (indirect) bailout of the private equity industry, which operates by buying failing companies and turning them profitable – often by firing a hefty chunk of their workforce. In other words, they fear it’s less “lending a helping hand to Main Street” and more “lending a helping claw to the vultures feasting on Main Street.”

“If you think people were upset about bailing out banks where the CEOs were making $50m a year, how are they going to feel about bailing out private equity firms where the CEOs make $500m a year?” one investor asked the Financial Times.

Other features of Thursday’s bailout include a Municipal Liquidity Facility, which has up to $500 billion to dole out to states and cities whose debt it will buy at a price that depends on their credit rating, a Main Street Lending Program, and an auxiliary entity set up to finance the banks loaning to ailing small businesses under the Paycheck Protection Program.

Finance website Zero Hedge observed that the only asset-class left for the Fed to purchase was stocks – a notion as unthinkable as its purchase of junk bonds was two months ago.

Pouring ever more cash into corporations with a dubious future has made many Americans uneasy as they, in the words of the famous meme, watch the “money printer go brrrrrr.”

Others cried foul at the thought that major societal ills could have been fixed many times over by all the corporate bailouts going on.

And many noted that the small businesses that were supposed to be getting bailed out were still languishing while the Fed is feeding the fat cats.

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