Monday Musings: March 23, 2020

Mar 23, 2020


Public Trust Credit Team

The Federal government’s actions have supported the economy but more will be needed

Last week and again this morning, the Federal government took actions to blunt the impact of the pandemic response on the U.S. economy. The actions have specifically targeted malfunctions in liquidity, money markets, and the credit markets. The details of each specific action are numerous and esoteric for this publication but will be briefly summarized in the following paragraphs.
The impact of the COVID-19 pandemic paired with a simultaneous oil price war created tremendous uncertainty in both the real economy and the investment community further exacerbated by unexpected trading patterns. While COVID-19 and the oil price war are likely familiar to most, the trading behavior may be less so. According to Bloomberg, unusual circumstances in a levered (meaning borrowing to invest) Treasury Futures and cash Treasury trade led to extremely high demand from unlevered investors who normally prefer commercial paper and foreign exchange forward contracts. These large unlevered investors sold securities to broker-dealers (BD), resulting in large balances held by the BDs and, ultimately, to a market dislocation. Essentially, liquidity was sucked out of the commercial paper market, vital for the normal functioning of the economy and typically highly liquid. Concurrently, the stock market experienced wild swings due to uncertainty of the economic impact of the pandemic, leading to tremendous pressure on banks and the investment community.
To grease the economic skids, the Federal Reserve introduced a litany of programs last used during the Global Financial Crisis of 2008. These include reducing interest rates, reducing bank reserve requirements, supporting the market for repurchase agreements, and pledging to purchase Treasuries, agencies, certain high-grade municipal securities, and tier-1 commercial paper (including asset-backed commercial paper). The desired impact is to continue funding the day-to-day operations of companies and governments while ensuring the smooth operation of the financial markets. The Fed’s actions have been well-received by many investors, but the Fed alone cannot resolve the economic turbulence. Congress and the Trump Administration are debating fiscal stimulus to support the economy, hoping to help reduce the impact of a probable recession. However, the greatest stimulus would be clarity on the length of the pandemic-inspired economic disruptions.
Given the tremendous volatility in the investment markets and the velocity of news flow, it can be difficult to understand the current investment climate. Public Trust understands these concerns and remains available for questions.

U.S. investment grade funds faced record-shattering outflows last week

Investment grade (IG) funds/ETFs had $43.75 billion in outflows last week according to Bank of America, shattering previous records for fund withdraws during a panic. A lack of liquidity in the markets and plunging bond prices caused the outflows though foreign buyers have begun to wade in, sensing the default risk is not nearly as high as it was in 2008. Market consensus for corporate earnings has turned sharply negative with analysts predicting -15% earnings growth for 2020. However, the consensus for the IG market still signals 3% earnings growth meaning there still may be revisions to the downside before this is over. Corporations were able to sneak some issuance into the market last week, but the continued illiquidity and volatility will likely keep corporate issuances low and opportunistic in the near term.

Olympic Games postponed for the first time in history

To add to a slew of unprecedented events over the past several weeks, the International Olympic Committee formally announced this afternoon that the 2020 Summer Olympic Games previously scheduled to take place on July 24 through August 9 in Tokyo, Japan, will be postponed. Details are likely to be unveiled in stages over the coming month with many expecting the Games to be delayed until 2021. The announced postponement is another blow to a deteriorating economic outlook for Japan this year. The Japanese government has been preparing for the Games for over a decade and is now tasked with the complex process of renegotiating contracts and venues for a later date.
All comments and discussion presented are purely based on opinion and assumptions, not fact. These assumptions may or may not be correct based on foreseen and unforeseen events. The information presented should not be used in making any investment decisions. This material is not a recommendation to buy, sell, implement, or change any securities or investment strategy, function, or process. Any financial and/or investment decision should be made only after considerable research, consideration, and involvement with an experienced professional engaged for the specific purpose. Past performance is not an indication of future performance. Any financial and/or investment decision may incur losses.

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