Global Markets and Macroeconomic Policy Responses · Near-term cash flow news is extremely...

Global Markets and Macroeconomic Policy ResponsesFinancial Markets and the Fed in the COVID-19 Pandemic

Robin GreenwoodVictoria IvashinaAdi SunderamApril 14, 2020

1

Global Markets and Macroeconomic PolicyFinancial Markets

Faculty and Guests

2

Robin Greenwood

VictoriaIvashina

AdiSunderam

Paul Tucker

Chair, Systemic Risk

Council

BoazWeinstein

Saba Capital

AndréPeroldHighVistaStrategies

DavidAbrams

Abrams Capital

Global Markets and Macroeconomic PolicyFinancial Markets 3

https://projects.iq.harvard.edu/covidpt

https://projects.iq.harvard.edu/covidpt


Agenda

4

Equity Markets Bond Markets CLOs and & the Fed Corporate Liquidity


Equity Markets

5

Global Markets and Macroeconomic PolicyFinancial Markets 6

0

50,000

100,000

150,000

200,000

250,000

300,000

350,000

400,000

450,000

500,000

0

500

1000

1500

2000

2500

3000

3500

40001/

22/2

020

1/29

/202

0

2/5/

2020

2/12

/202

0

2/19

/202

0

2/26

/202

0

3/4/

2020

3/11

/202

0

3/18

/202

0

3/25

/202

0

4/1/

2020

4/8/

2020

Cum

ulat

ive

Cas

es

S&P

500

SP500 vs. US Confirmed Cases

S&P 500 US Confirmed Cases

1

10

100

1,000

10,000

100,000

1,000,000

0

500

1000

1500

2000

2500

3000

3500

4000

1/22

/202

0

1/29

/202

0

2/5/

2020

2/12

/202

0

2/19

/202

0

2/26

/202

0

3/4/

2020

3/11

/202

0

3/18

/202

0

3/25

/202

0

4/1/

2020

4/8/

2020

Cum

ulat

ive

Cas

es (L

og S

cale

)

S&P

500

SP 500 vs. US Confirmed Cases

S&P 500 US Confirmed Cases


Global Market Responses

7

60

65

70

75

80

85

90

95

100

105

110

Retu

rn In

dex

S&P 500 Nikkei 225 Hang Seng DAX


Cash flows and discount rates

Near-term cash flow news is extremely negative, but markets have already started to look beyond this year

How much of the movement in prices is changes in discount rates, or risk aversion?

Policy influences both the numerator and the denominator

8

𝑃𝑃0 =𝐹𝐹𝐹𝐹𝐹𝐹11 + 𝐾𝐾

+𝐹𝐹𝐹𝐹𝐹𝐹2

1 + 𝐾𝐾 2 +𝐹𝐹𝐹𝐹𝐹𝐹3

1 + 𝐾𝐾 3 + ⋯


Discounting (Disciplining) Arithmetic

9

Dollar Growing at Rate 3% 5% 3% 5%

Discount Rate 8% 8% 10% 10%

Fair Value 20.0 33.3 14.3 20.0

Year 1 as % of Value 5% 3% 6% 5%


Recovery from dark days

10

0.00

20.00

40.00

60.00

80.00

100.00

120.00

140.00

160.00

Real Earnings of S&P 500

Source: Robert Shiller


Daily

/Wee

kly

indi

cato

rs

11

0

500,000

1,000,000

1,500,000

2,000,000

2,500,000

3,000,000

1-Mar 8-Mar 15-Mar 22-Mar 29-Mar 5-Apr

TSA Daily Throughput

2020 2019

-120-100

-80-60-40-20

02040

Dec

line

rela

tive

to 2

019

Restaurant Reservations Y-O-Y

Restaurant Reservations- MARestaurant Reservations- NY

-10

-8

-6

-4

-2

0

2

4

6

31 D

ec 2

007

31 D

ec 2

008

31 D

ec 2

009

31 D

ec 2

010

31 D

ec 2

011

31 D

ec 2

012

31 D

ec 2

013

31 D

ec 2

014

31 D

ec 2

015

31 D

ec 2

016

31 D

ec 2

017

31 D

ec 2

018

31 D

ec 2

019

Stock et al Weekly Economic Indicator

0

1,000,000

2,000,000

3,000,000

4,000,000

5,000,000

6,000,000

7,000,000

8,000,000

8-18

-200

78-

18-2

008

8-18

-200

98-

18-2

010

8-18

-201

18-

18-2

012

8-18

-201

38-

18-2

014

8-18

-201

58-

18-2

016

8-18

-201

78-

18-2

018

8-18

-201

9

Initial Claims

Sources: OpenTable, TSA, FRED, Jim Stock


US Sector Returns

12

-13% -15%

-8%

-44%

-24%

-7%

-22%

-16%

-8% -7% -6%

-50%

-45%

-40%

-35%

-30%

-25%

-20%

-15%

-10%

-5%

0%

Source: Based on YTD returns from SPDR Sector ETFs


Equity Markets Panel

How do you make sense of markets today?

13

AndréPeroldHighVistaStrategies

DavidAbrams

Abrams Capital


Bond Markets and the Fed

14


Bond Markets and Fed Interventions

Chaos in markets in early March Some similarities to the GFC: runs, market freezes

Federal Reserve deployed its entire 2008-09 playbook Took almost a full year in the GFC

Two weeks this time around

Markets have stabilized following these massive interventions

More to be done as bond markets have changed dramatically since 2009

15


US Treasury Yields Tumble

16Source: Federal Reserve Board of Governors


Credit Spreads Soar

17Source: Federal Reserve Board of Governors


Flows out of Corporate Bond Funds

18Source: Morningstar


High Yield Bond Issuance Collapses

19Source: SIFMA

$0

$5

$10

$15

$20

$25

$30

$35

$40

Sep-19 Oct-19 Nov-19 Dec-19 Jan-20 Feb-20 Mar-20

US Corporate Bond Issuance, Jan 2019 - Mar 2020 (in $ billions)


What has the Fed done?

Conventional: Cut federal funds rate to zero. Quantitative Easing: buying Treasuries and MBS Liquidity Support

Dealers Money market funds Asset-backed securities

New: Credit markets Investment grade firms State and local governments High yield and small firms

20


History doesn’t repeat…but it rhymes

What’s the same

Liquidity or solvency?

Flight to quality

Runs and market freezes outside traditional banks

The Fed saves the world

21

What’s different

Firms not banks (so far)

Flight to cash

Shadow lending, not shadow banking

?


Bond Markets Panel

How is credit priced today?

What is different between today and the GFC?

22

Paul Tucker

Chair, Systemic Risk

Council

BoazWeinstein

Saba Capital

Managing the Liquidity Crisis

23


Managing the Liquidity Crisis

24

https://hbr.org/2020/04/managing-the-liquidity-crisis


The Starting Point

Prof. Victoria Ivashina When a Pandemic Collides with a Leveraged Global Economy

Unprecedented Corporate Leverage

Economic consequences

of COVID-19

Massive Liquidity NeedDowngrades

+


Leveraged Loan Market: The Focus is on CLOs

26

• CLOs: Collateralized Loan Obligations


Why Won’t CLOs Provide Additional Capital:Binding Mechanisms

27

• By design, the structure has a “live” restructuring mechanism built in

Absolute seniority

Liabilities:

Mezzanine Notes

Senior Notes

Collateral pool

$

Downgrades

Equity


CLOs: The Roadblock of the Large Cap Space

28

Liabilities:

Mezzanine Notes

Senior Notes

Equity

Through the CLO covenants (eligibility & O/C): • CLO is either prohibited• Or equity is heavily

disincentivized to inject additional capital (as it comes directly from the value of equity)


One More Fact: Abundance of Private Capital

29

• Global “Dry Powder” (upper bound)A solution to the problem should lever funds and expertise of private capital

Source: Preqin


CARES Act

30

Although substantial ambiguity about the exact implementation remains, In its current form:

It does not adequately lever private capital

E.g., MSNLF MSELF are constrained to banks and S&Ls

It leaves the CLO “roadblock“ in place, and works around it (ironically, exploiting the room for additional leverage under the weak covenants)

It leaves out large firms and the most urgent situations (>6x Debt/EBITDA)

For leveraged borrowers, it is poorly designed in terms of incentives


Thank you!

Stay tuned for additional sessions Macroeconomic Policy Responses to the COVID-19 Pandemic

(This Thursday and Friday)

Economics Discussion with Larry Summers (Monday April 20)

31

Global Markets and Macroeconomic Policy Responses · Near-term cash flow news is extremely...

Documents

Transcript of Global Markets and Macroeconomic Policy Responses · Near-term cash flow news is extremely...