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The Federal Reserve has announced a new set of initiatives to not only further support market liquidity, but also extend credit across the full spectrum of borrowers. The program includes an expanded commitment to purchase enough Treasury securities and agency mortgage-backed securities as the Fed deems necessary to ensure sufficient liquidity in the markets to support the effective transmission of its monetary policy. The other new facilities are designed to not only extend credit to large, investment-grade-rated corporations, but also supply credit to small and medium-size businesses and municipalities through new loan programs as well as provide for the extension of credit to consumers.
To implement the expanded bond-buying initiatives, the New York Fed announced that it would purchase $75 billion of Treasury securities and approximately $50 billion of agency mortgage-backed securities each business day this week (a total of $625 billion) and would also begin purchasing agency commercial mortgage-backed securities. In addition, the Fed will purchase corporate bonds, both in the primary and secondary market, which will help to cushion any further widening among corporate credit spreads. Corporate bond prices had been in a free-fall over the past few weeks as credit spreads have widened out to the second-widest level over the past 20 years, surpassed only by the 2008 global financial crisis.
The Fed’s plan will include facilities to support the issuance of asset-backed securities. These securities are used to fund the direct extension of credit to consumers and small businesses. Typically, the collateral for these securities includes student, auto, credit card, and other loans guaranteed by the Small Business Administration. The Fed also instituted programs to help facilitate the extension of credit to municipalities.
Why Investors Should Care The Fed has taken many of the lessons it learned during the 2008 global financial crisis and is using that playbook to revive many of the programs it instituted then to help alleviate the near-term financial and economic impact of the COVID-19 pandemic. These programs will ensure that there is more than enough liquidity and credit extension in the economy to support both businesses and consumers until this crisis is in the rearview mirror. In essence, the Fed has made its own "do whatever it takes" commitment and has backed up that commitment with specific, large-scale programs.
The markets reacted quickly and initially surged significantly higher on this announcement; however, while these initiatives will go a long way toward cushioning the economic contraction wrought by COVID-19, markets will continue to be volatile. For volatility to subside, investors will need greater clarity as to the depth and duration of this near-term economic contraction and visibility as to how quickly the economy can normalize thereafter.
In the meantime, we recommend that investors maintain focus on their long-term investment plan, monitor their targeted asset allocation within their portfolio, and consider rebalancing on either a periodic basis or as their balance deviates significantly from their target.
This article has been written on behalf of Morningstar, Inc., and is not the view of DBRS Morningstar.