What does it mean when a whole financial market becomes too-big-to-fail?
That is the concern from Scott Minerd of Guggenheim Partners who says the Federal Reserve’s interventions to support the market for debt issued by highly rated corporations wouldn’t be allowed to seize up.
“The support on offer to corporate America during this period of economic shutdown risks the creation of a new moral obligation for the U.S. government to keep markets functioning and help companies access credit,” said Minerd, global chief investment officer for Guggenheim Partners.
In his latest missive published Sunday, the widely respected bond fund manager likened the $6 trillion investment-grade bond market to government-sponsored enterprises like Fannie Mae, which only grew in size after 2008 despite sitting close to the epicenter of the financial crisis.
“The difference is that in this cycle, it is not a specific institution that is too big to fail, it is the investment-grade bond market that is too big to fail,” he said.
His remarks come as some skeptics continue debate the Fed’s interventions in mid-March, which have encouraged issuers to sell debt and investors to buy bonds.
Following the Fed’s announcement that it would launch emergency lending programs targeting the issuance of investment-grade debt, corporate treasurers sold billions of paper to see them through the current economic downturn.
In March and April, U.S. investment-grade rated companies issued close to $500 billion of bonds, with even companies hit hard by the COVID-19 pandemic, such as Boeing
taking the opportunity to tap capital markets, according to data from the Securities Industry and Financial Markets Association.
Minerd speculated that ratings agencies may be slower to downgrade companies, too, if they also believe in the Fed’s willingness to backstop corporate debt issuance.
“That does not mean every company is going to get bailed out, or that every bad credit will be turned into a good credit, but at the margin some questionable credits will not only have lower risk of default, but they will also have lower risk of downgrade and pay lower rates of interest,” the investment manager said.
The Fed’s playbook of providing more credit to smooth the ups and downs of the business cycle has convinced Minerd to increase his exposure to corporate debt.
Still, he felt the long-term viability of increasing overall debt levels after every recession was unsustainable, even if benchmark federal-funds interest rates, currently at a range 0% and 0.25%, turned negative for the first time in history for a sustained period. In theory, negative interest rates for issuers would make financing easier for corporate borrowers.
In broader markets, the S&P 500
ended the session virtually unchanged, while the Nasdaq Composite Index
rose 0.8% and the Dow Jones Industrial
declined 0.8% as investors looked forward to the reopening of the U.S. economy, despite lingering questions to what extent social curbs and business restrictions could be eased immediately.
The 10-year Treasury note yield
rose 4 basis points to 0.718%, as traders made room for the wave of new government debt supply coming onto the block this week. Bond prices move in the opposite direction of yields.