Timothy Taylor writes about the Fed getting into the corporate bond market,
The Fed is starting with $50 billion for the “Primary” fund and $25 billion for the “Secondary” fund. The idea is to then leverage this amount with debt in a 10:1 ratio so that it could end up financing $750 billion in purchases.
You might remember that Congress put all sorts of conditions on giving loans to small business. They had to promise to keep employees and do other things. You can bet that the big boys are going to get their money no matter how many people they lay off.
“The Big Boys” are me. I’m pretty well diversified, but a significant portion of my portfolio is in investment grade corporate bond ETFs.
The Fed’s backstopping these is the Fed, to some extent, backstopping my retirement. And that of anyone else (that is to say, almost everyone) who has a reasonably diversified set of retirement savings).
Also, this still seems to be an expectations-based event rather than an actual purchase. The announcement of the policy stopped credit markets from imploding. Expectations. The announcement of the funding vehicle is a follow through of that, but it’s still not an actual purchase of assets. To what extent this capacity actually has to be utilized is going to be a big signal on how bad the problems are (or, optimistically, if there’s a problem at all).
If the problems are sufficiently bad, then the Fed will actually have to buy a lot, but the market will collapse anyway because the Fed actually buying everything up would spur more panic and expectations would collapse. At that point, the Fed would no longer be able to credibly pursue the policy.
The expectations game is basically analogous to a nuclear arms race.
If the US does nothing and the other countries build the capability to nuke us, we lose.
If the Fed does nothing and the financial markets crater, we lose.
If the US builds deterrents, we don’t have to use them. We win. We create the expectation that an attack against the US would be counterproductive so an attack doesn’t occur.
If the Fed builds deterrents, it doesn’t have to use them. We win. We create the expectation that a panicked financial collapse would be backstopped by the Fed. This removes the reason for the panic, and so it either doesn’t occur or subsides before it spirals out of control.
If the US has to start using its deterrents, it’s a much bigger step toward loss. A conventional war has the possibility of becoming a nuclear one, and that’s a loss.
If the Fed has to start using its deterrents, it’s a much bigger step toward a loss. There’s a limit to what the Fed can actually do without likely exacerbating the panic, and that would be a loss.
The leverage part mystifies me. Does this mean the Fed is going to borrow from its member banks using its own portfolio as collateral? …. the same portfolio it has been off-loading from the banks?
It’s the Fed. They don’t need anybody’s help to borrow. They can just print dollars as needed. The entity borrowing here is the treasury (or more accurately: the SPV controlled by the treasury and managed by Blackrock). They need this rube goldberg contraption because the Fed isn’t allowed to lend to risky counterparties (normally…).