Three in One

The Federal Reserve is in many ways propping up today’s market environment. Although its actions are similar to its GFC response, it has been much more decisive, aggressive, and controversial during this crisis. Its monetary policy decisions include the same zero interest rates, a resurgence of programs like the Term Asset-Backed Securities Lending Fund (TALF), and an increase in quantitative easing. According to Chairman Jerome Powell, “We crossed a lot of red lines, that had not been crossed before, this is that situation in which you do that, and you figure it out afterward.” Presumably, this is meant to acknowledge that new programs, such as the Secondary Market Corporate Credit Facility, in which the Fed has purchased billions of dollars of fixed income exchange traded funds (including funds that hold high yield bonds), are outside of policy orthodoxy—and even possibly the Fed’s legal authority.⁶ Powell could also be referring to another aspect of the program whereby the Fed purchases the bonds of corporations such as Apple, Toyota, and Walmart.⁶ It took the Fed nearly a decade since the GFC to increase its balance sheet by $3 trillion,⁷ but just three months to match that feat during this crisis. The Fed has also been much more aggressive in its quantitative easing program in which it has purchased as much as $125 billion of securities per day, significantly more than it did during the GFC.⁷

Along with zero interest rates, the Fed is hoping that these tools will be an effective economic vaccine to the turmoil brought on by the coronavirus. Former FDIC Chair Sheila Bair, who was at the helm during the GFC, claimed the Fed’s attempts were futile: “PostGFC experience shows that low interest rates don’t trickle down. They inflate financial assets primarily owned by the rich. The idea is to increase borrowing, but the last thing we need is more debt.” ¹⁹ So far, the Fed has indeed successfully bolstered asset prices, as well as incentivized an explosion in new corporate debt. During the quarter, nearly $900 billion of corporate debt was issued, bringing the year-to-date total to $1.4 trillion—double the amount this time last year.⁸

In addition to the support from the Fed, the market has also been buoyed by optimism about the labor markets. Initial jobless claims have been on a steady = trajectory lower from nearly 7 million in early April to an end of June reading at just over 1.4 million.⁹ Continuing jobless claims have also moved lower off all-time highs, dropping from nearly 25 million to 19 million at the end of June.⁹ The partial economic re-opening has allowed roughly one third of workers to find jobs as unemployment improved from 15% to 11%.⁴

Unfortunately, absent a vaccine or effective therapeutics to address the virus, additional fiscal and monetary support will likely be needed in the second half of the year. A recent study by Austan Goolsbee and Chad Syverson of the Becker Friedman Institute for Economics at the University of Chicago addressed the question of how much of the economic collapse resulted from government-imposed restrictions versus people voluntarily choosing to stay home to avoid infection.¹⁰ Using cellular phone data from SafeGraph, which collects information on almost 45 million cellular phone users (or about 10% of devices in the U.S.), they estimated overall consumer foot traffic fell by 60%—only 7% of that reduction due to legal restrictions. This appears to continue to be the case. According to SafeGraph, in states where positive cases are on the rise—such as Florida, Texas, Arizona, and California—foot traffic remains at depressed levels or has deteriorated into July.¹¹ Other data point to a similar lull in activity. According to TSA travel checkpoints, the number of airplane passengers in the last seven days of the quarter averaged just 579,000—or down 77% from the same period last year.¹² OpenTable data revealed that reservations at sit-in restaurants declined over the past few weeks and are down more than 60% when compared to last year.¹³ This all comes = at a time when new COVID-19 cases are exceeding 50,000 per day in the U.S.¹⁴

On the bright side, the Treasury market appears willing to tolerate trillion dollar relief plans, as well as the Federal Reserve’s decision to monetize a large percentage of new debt. As a result, yields and inflation remain low, and the dollar is relatively stable—for now, at least. The U.S. Treasury issued an astounding net $2.683 trillion of debt in the second quarter.¹⁵ And while the Federal Reserve bought $868 billion⁷ through its quantitative easing program over the same time period, the 10-year Treasury yield was stable, moving lower by 4 basis points to end the quarter at 66 basis points. As long as bond markets remain so accommodating, low yields could pave the way for a massive infrastructure spending bill within the next six months as pressure builds on policymakers to help millions of out-of-work people find new careers.

In the U.S. equity market, the consumer discretionary sector generated the best return during the quarter, up 33%. Both technology and energy stocks were up 31% for the quarter, although the experiences of the two sectors in the first half of 2020 were decidedly different. Overall, technology was up 15%, while energy was down 35% for the year. The technology sector has largely benefited from the transition to “virtual” work and socializing, combined with healthier balance sheets and less exposure to the hardest hit parts of the economy. Energy benefited from a rebound in oil prices after West Texas Intermediate (WTI) oil prices declined to a value of negative $37/barrel in late April. Since then, oil prices have risen steadily and spent much of the second quarter above $25, closing out the quarter at nearly $40/barrel. Support to prices is coming from a rebound in demand and a drop in supply. U.S. oil production is down 16% from the all-time peak in production in March, and the active oil rig count, tabulated by Baker Hughes, is down over 70% on a year-over-year basis.^16,17