Weekly Update - Extraordinary Measures

The Fed has offered $2.3tn in additional support to businesses and to credit markets. The largest programmes are: 1) It will buy up to $750bn in corporate bonds on both the primary and secondary markets, including the bonds of “fallen angels”, that is issuers whose credit rating has been downgraded to the High Yield (HY) or junk category. And it will also buy HY exchangetraded funds (ETFs), the first time it has ventured into the riskiest segment of the bond market. 2) It has earmarked up to $600bn to support loans to “Main Street”, shorthand for small and medium sized businesses. This will be a “public/private” partnership with commercial banks, which will originate the loans. 3) The Fed will also buy short-term notes issued by states, the largest counties and cities of over 1 million inhabitants, up to $500bn in total. This is designed to kick-start the municipal bond market which has dried up in recent weeks. These measures are equivalent in aggregate to 11% of US GDP and should be instrumental in returning US credit markets to a more stable footing. The BoE surprised observers by announcing short-term monetary financing of government spending, a move which the BoE Governor had ruled out only a few days ago. This enables the Treasury to continue to spend on its various support programmes without having to tap the sovereign bond (gilt) market. Already, the Chancellor had increased planned gilt issuance in April from £15bn to £45bn but more will be needed. There is an urgent need to make good on commitments, such as the promise to pay 80% of laid-off workers’ monthly wages (this could cost £30-40bn over the next three months according to the Resolution Foundation). The Eurogroup also reached agreement yesterday on a number of support measures for the euro zone: 1) The European Stability Mechanism will be authorised to extend up to €240bn in non-conditional loans to member countries to finance the direct and indirect healthcare costs they face. 2) The European Investment Bank will extend €200bn in loan guarantees for small and medium sized companies across the region. 3) The European Commission’s SURE €100bn programme to finance short-term working was also approved. In addition to these measures, the Eurogroup also announced a commitment to set up a temporary €500bn fund to finance reconstruction after the coronavirus recession. Encouraging though these announcements are, they still need to be approved by heads of State at a forthcoming meeting, meaning that the support burden will continue to be borne by national governments for now.

Bottom line. The battle to minimise the economic fall-out from coronavirus containment and lockdowns will see debt burdens rise enormously in coming quarters. Governments will hope that their measures will soften the blow to GDP and foster a rapid recovery from recession, thereby enabling them to return to more orthodox budget and fiscal policies in due course. Many investors, however, may fear that government finances will remain on an unsustainable footing, meaning that central bank asset purchases to keep bond yields – and hence borrowing costs – low are likely to remain in place for the foreseeable future.

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