The Fed’s Bigger Boat! Is The Fed’s Cure Worse Than the Covid-19 Virus?

Apparently, The Federal Reserve and US Treasury think they need a bigger boat!

(Bloomberg) — The economic debate of the day centers on whether the cure of an economic shutdown is worse than the disease of the virus.  Similarly, we need to ask if the cure of the Federal Reserve getting so deeply into corporate bonds, asset-backed securities, commercial paper, and exchange-traded funds is worse than the disease seizing financial markets. 

In just these past few weeks, the Fed has cut rates by 150 basis points to near zero and run through its entire 2008 crisis handbook. That wasn’t enough to calm markets, though — so the central bank also announced $1 trillion a day in repurchase agreements and unlimited quantitative easing, which includes a hard-to-understand $625 billion of bond buying a week going forward. At this rate, the Fed will own two-thirds of the Treasury market in a year.

But it’s the alphabet soup of new programs that deserve special consideration, as they could have profound long-term consequences for the functioning of the Fed and the allocation of capital in financial markets. Specifically, these are:

CPFF (Commercial Paper Funding Facility) – buying commercial paper from the issuer.

PMCCF (Primary Market Corporate Credit Facility) – buying corporate bonds from the issuer.

TALF (Term Asset-Backed Securities Loan Facility) – funding backstop for asset-backed securities.

SMCCF (Secondary Market Corporate Credit Facility) – buying corporate bonds and bond ETFs in the secondary market.

MSBLP (Main Street Business Lending Program) – Details are to come, but it will lend to eligible small and medium-size businesses, complementing efforts by the Small Business Association.

To put it bluntly, the Fed isn’t allowed to do any of this. The central bank is only allowed to purchase or lend against securities that have government guarantee. This includes Treasury securities, agency mortgage-backed securities and the debt issued by Fannie Mae and Freddie Mac. An argument can be made that can also include municipal securities, but nothing in the laundry list above.

So how can they do this? The Fed will finance a special purpose vehicle (SPV) for each acronym to conduct these operations. The Treasury, using the Exchange Stabilization Fund, will make an equity investment in each SPV and be in a “first loss” position.

What does this mean? In essence, the Treasury, not the Fed, is buying all these securities and backstopping of loans; the Fed is acting as banker and providing financing. The Fed hired BlackRock Inc. to purchase these securities and handle the administration of the SPVs on behalf of the owner, the Treasury.

In other words, the federal government is nationalizing large swaths of the financial markets. The Fed is providing the money to do it. BlackRock will be doing the trades.

Here is part of the mayhem The Fed/Treasury are trying to mitigate. The CitiMortgage Alternative Loan Trust 2007-A4 asset-backed security.

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Yes, the US Treasury curve is now below 0.75% from 10 years in, including negative yields on most Treasury bills.

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The US Treasury actives curve and On/off the run curves are under 1% at 15 years and in.

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Welcome to Amity Island, in a shutdown over the Corona-19 virus.

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LOIS (LIBOR-Overnight Indexed Swap) Spread Spikes As Fed Adds $4.5 Trillion To Its Balance Sheet

Historically, when the spread between LIBOR and the safer OIS (overnight indexed swap)  widened, it meant that banks were having trouble borrowing and was a warning of danger for the economy. And the LOIS spread is widening!

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The Federal Reserve has reversed course on its balance sheet unwind, but the reversal  started in September of 2019, well ahead of the known corona-virus outbreak in Wuhan China. In fact, The Fed has added $4.5 trillion in recent weeks.

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Apparently at the December 11, 2019, the Fed’s Open Market Committee (FOMC) only saw Fed Funds target rate increases coming.

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Treasury Repo collateral has spiked recently.

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And we are seeing both short and long rates crashing (but the short rates are crashing faster than long rates,

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leading to a steepening of the Treasury yield curve.

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Treasury volatility is on the rise again.

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The coronavirus is NOT a good thing.

Yes, coronavirus fears are sweeping the globe.

But The Fed drives me crazy!

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Stimulypto! U.S. Stocks Rebound on Stimulus Speculation (Fiscal And Fed)

What do you call an expected 3 rate cuts by The Federal Reserve AND fiscal stimulus to combat the coronavirus? STIMULYPTO!!

(Bloomberg) — U.S. stocks turned higher in another wild day on Wall Street, with investors pining for details on the Trump administration’s expected stimulus to combat the coronavirus’s economic impact. Treasuries fell and oil jumped.

The S&P 500 whipsawed from the outset Tuesday, surging 3.5% before turning negative and the rising again. President Donald Trump promised “major” moves to counter the fallout, but he has not communicated his plans to Congress yet. He did say his administration would assist the airline and cruise industries. A 4% rally in European stocks got zapped.

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The Dow has recovered a bit from yesterday’s stock slaughter.

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The unknown fiscal stimulus (likely reduced tax withholding) in addition to the anticipated three Fed rate cuts coming in March.

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Stimulypto indeed!

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Update: after a few speed bumps, the Dow closed up 1165 points. Stocks Jump Most Since 2018 on Stimulus Hope

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And the 10-year Treasury yield is up 26 basis points.

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