Rescue of the Federal Reserve’s $ 3 trillion virus inflates market bubbles


Kate Duguid
(Reuters) – The US $ 3 trillion offer from the US Federal Reserve to avert an economic crisis in the aftermath of the coronavirus epidemic is fueling excesses in the US financial markets.
The US central bank has promised unlimited purchases of financial assets to support market liquidity, increasing its balance sheet from $ 4.2 trillion in February to $ 7 trillion today.
While the vast majority of these purchases were limited to US Treasuries and mortgage-backed securities, the Fed’s commitment to support the corporate bond market was enough to spark a frenzy among investors for bonds and stocks.
“COVID-19 is now inversely linked to the markets. The worse COVID-19 gets, the better the markets are doing because the Fed will provide stimulus. This is what has been driving the markets, ”said Andrew Brenner, head of international fixed income at NatAlliance.
Here are some of the market bubbles that investors attribute to the intervention of the Federal Reserve.
The Federal Reserve did not buy shares as part of its financial stimulus packages. But its near-zero interest rates and support for credit to large swaths of corporate America has drawn yield-hungry investors back to the equity market.
Since their March 23 low, the S&P 500 and the Dow Jones Industrial Average have both risen more than 40% and the Nasdaq composite has gained almost 60%. The S&P 500 forward price-to-earnings ratio is currently 21.5, the level last seen during the dot-com boom 20 years ago.
Stock market euphoria spread to initial public offerings (IPOs) and other securities sales to investors.
A record $ 184 billion was raised on US equity markets in the second quarter, according to Refinitiv IFR data. More than $ 8.9 billion of IPOs in the second quarter priced above the target range, the highest amount since the third quarter of 2014, according to Dealogic.
“Why someone would buy Nissans at Bentley prices is beyond me, but that’s what usually happens with any sexy IPO. Sure, the Nissan has 4 wheels and good transportation, but is it worth a Bentley assessment? Said Richard Bernstein, chief investment officer at Richard Bernstein Advisors.
The Fed’s bond purchase programs have encouraged companies to tap into the credit markets and made the second quarter the busiest ever for debt issuance.
Some $ 1.2 trillion in premium paper was sold in the first half of the year, the highest issue volume recorded by the Securities Industry and Financial Markets Association. Although the Fed has refrained from buying most floating rate bonds, the issue reached $ 200 billion until June, more than double last year’s rate.
“Investment grade and high yield bonds had an incredible quarter in terms of issuance and performance. We continue to see more and more money flowing into these markets, ”said Ted Swimmer, head of capital markets at Citizen’s Commercial Banking.
“But there were so many new shows in the second quarter, you worry that you won’t see a ton of new shows in the third quarter. “
The premiums that investors charge for holding riskier corporate debt compared to safer Treasury bonds or credit spreads fell sharply in the second quarter. On March 23, investors received the highest premium in 11 years for holding unwanted rated debt, as measured by the ICE / BofA High Yield Index. This number almost halved by the end of the second quarter.
Good quality debt, using the equivalent ICE / BofA index, fell almost entirely from 401 basis points on March 23 to 152 basis points today.
Kate Duguid reports in New York; Additional reports by Joshua Franklin and Ally Levine; Graphics by Ally Levine and Kate Duguid; Editing by Greg Roumeliotis and Daniel Wallis

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