March 2020

Since we penned our last monthly update, the unthinkable has come to pass.  The Coronavirus death toll, which just a month ago seemed an abstract concern, has come to cripple the daily activities of the entire world.  Social distancing, face mask demand, shortages of staples such as paper goods, pasta, and flour have become part of our common consciousness.  Our leaders have begun to talk of restarting the economy and returning to normalcy, but don’t seem to have a concrete plan of how to do so.

As we anticipated, market volatility has remained significantly elevated, with the Dow Jones Industrial Average regularly swinging more than 500 points a day.  While equities have rebound off of the low, crude oil prices have not and remain a threat to U.S. oil producers, and the sharp drop in miles driven attributable to the virus is adding to the woes of that sector.

The Federal Reserve has responded to the sharp slowdown in business activity by aggressively implementing numerous support programs.  In unprecedented fashion, the Fed has announced that they will backstop basically everything, including a suggestion that they would consider buying equities.  Initially they indicated that they would buy investment grade corporate debt, but quickly expanded their buying program to include sub-investment grade debt, commercial mortgage-backed paper, and Collateralized Loan Obligations (CLO).  The last category was surprising to us.  The Fed has warned repeatedly of the deteriorating credit metrics in the loan market, so to buy that paper seems to be a tacit bailout of poor lending practices.  And of course, the Fed continues to buy Treasury bills and notes in the open market.  Over the course of the last month through April 8th, the Fed has expanded their balance sheet by over $1.2 Trillion, by printing new US dollars.

The Fed’s action to backstop everything fixed income, was a week too late for at least one money market fund complex. According to Bloomberg News, Goldman Sachs had to inject $1.8 billion into its money funds to keep them from printing net asset values below $1.00.

For their part, the Treasury Department has been issuing new public debt at a furious pace.  In the first week of April Treasury issued five different unscheduled Cash Management Bills totaling $270 Billion dollars.  That’s over and above the $240 Billion T-Bills that were scheduled to be sold.  A Cash Management Bills (CMB) is the AAA-rated equivalent of a “pay day” loan.  The Treasury finds itself in need of unanticipated capital and needs to borrow over and above their regularly scheduled auctions.  However, because of the special one-off nature of the CMB, they trade cheap to T-bills of a similar maturity.  In some instances, as much as 7 to 10 basis points cheaper.  That may seem perverse in a near 0% interest rate environment, but it’s the “one-off” nature that causes the disparity.  Money market fund managers like to match their Bill maturities to the next issuance date to ensure that they are able to roll-over the existing amount in the next auction.  Because CMB’s don’t always offer that convenience they trade at a discount to Bills with similar maturities.

Economist have begun the task of guessing the magnitude of economic loss and the even trickier task of estimating how long business will be shut down.  However, given the unknown path of the pandemic, such number crunching is nothing more than folly.  We’ve just concluded the fourth week of social isolation and the experts can’t offer much more than we’re now hoping for a May 15st reopening of the economy.  From where we sit we can’t help but wonder what that reopening will look like.  A reopening for everyone under the age of 65?  A reopening of the many sports activities that have been postponed or canceled?  A reopening for the travel and leisure industries?  All we can do now is wait and see.

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