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The unique economic risk presented by the viral illness COVID-19 is roiling Wall Street as market participants wonder what measures that policy makers could take to ameliorate pressure on corporations facing a potential cash and credit crunch.
Worries that a twin demand and supply shock like the one this novel coronavirus has presented could hurt sales and reduce cash flows for corporations in the next few months, prompting investors to call for more creative measures from the Federal Reserve and the Treasury Department to help businesses survive the difficult months ahead.
Their demands for a more targeted policy response comes after the Fed carried out a surprise 50-basis-point intermeeting cut last Tuesday, but received a poor reception from some who saw the cuts as a blunt instrument that would fail to support businesses. The S&P 500 SPX, -7.59% is now down nearly 15% this year.
Here are a few options that market participants say could help:
Lines of credit
Back in the throes of the 2008 financial crisis, the Fed created emergency facilities to provide liquidity to borrowers and investors in corporate credit markets. Investors say if stress in corporate bond trading continues to play out in the coming weeks, these tools could help ease panic and restart issuance in debt capital markets.
“I want to see more of the creative credit facilities that came out of the Fed in 2009, and finally opened up markets,” said Bill Zox, chief investment officer of Diamond Hill Capital Management.
Others have called for the central bank to work with the Treasury Department to offer short-term loans to corporations and businesses that are creditworthy, but might miss a debt payment because of the coronavirus impact.
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“Bridge loans for corporates and small businesses perhaps managed by the Fed (through the banking system) and backed by the Treasury would be a start,” wrote Tom Porcelli, chief U.S. economist for RBC Capital Markets.
But others say interest rates already are low, and it’s unlikely the provision of additional lending facilities could help borrowers. “Credit availability is not the issue. That’s why the Fed’s 50-basis-point cut didn’t do anything for investor sentiment,” said Michael DePalma, managing director at MacKay Shields.
Corporate-bond buying
Boston Fed President Eric Rosengren last Friday mentioned the possibility that the U.S. central bank could buy corporate bonds beyond the usual Treasurys and mortgage-backed securities if interest rates hit zero and they lacked further ammunition to fight an economic slowdown.
Rosengren’s remark has sparked conversation among investors who suggest it could help support credit markets when they freeze up. This would see the Fed follow the European Central Bank, which has bought up billions of corporate debt in the last few years.
“We really need to see more QE on corporate bonds, not further shrinkage of the Treasurys market,” said Michael Kelly, global multiasset head at PineBridge Investments.
The Federal Reserve Act currently prohibits the central bank from buying investments that aren’t issued or guaranteed by the U.S. government. But the Fed has received permission from Congress to amend the law several times in the past, said DePalma.
“I would not be surprised if the Fed did ask for that permission,” he said.
Forbearance
Some economists, like Joseph Brusuelas at RSM, suggest the central bank’s supervisors could push banks to become more lax toward borrowers, so that viable companies are not pushed into bankruptcy when they skip a debt payment.
Other countries have already pursued debt forbearance policies. Local regulators in China have told banks to delay the recognition of bad loans from smaller businesses as a way of easing concerns around indebted corporate balance sheets.
Fiscal spending
Though most short-term slowdowns have tended to emanate from the industrial and manufacturing sector, such as in 2015–16, the recent worries around the coronavirus have focused on the potential disruption to the U.S. service sector, which contributes to around 80% of the economic output.
If consumers stop going out to get haircuts or eat at restaurants to avoid contracting the coronavirus, the worry is that low interest rates won’t help much to stimulate spending.
Investors say that’s why the federal government should take advantage of low borrowing rates and loosen the fiscal spigot. Congress signed off on $8.3 billion spending package to combat the virus last week.
“Fiscal measures would be more productive than continued Fed measures, at this point,” said Michael Cuggino, president and portfolio manager at the Permanent Portfolio Family of Funds.
The 10-year Treasury note yield TMUBMUSD10Y, 0.631% ended at 0.501% on Monday, according to Tradeweb data.
