March saw a liquidity crisis, and the Fed, as the lender of last resort, was needed to stabilize markets. However, the lender of last resort as a liquidity provider is not supposed to reverse the economic realities of cash flows. Yet, here we are with the value of LQD, the corporate bond market ETF, now above levels from the beginning of the year and near the price at the beginning of March.
Some of this price is related to the overall fall in rates but this is very interesting. There is no crisis in investment grade bonds. Bonds investors are saying there is more risk as measured spreads and overall yields received for bonds is higher than the beginning of the year, but financing levels are lower than the beginning of 2019 for investment grade and lower than the 2016 spike in high yield.
Spreads have spiked but have started to move lower. The differential with high yield is double from what was seen over the last two years. This could be seen as the Fed premia between being a buyer of corporate debt and not a buyer of high yield. Forget the economic numbers and forget the concerns of the rating agencies and their downgrades. The Fed will buy these bonds at attractive levels for investment grade bondholders.
A shortage of liquidity led to an overshoot in spreads in March and euphoria concerning Fed purchases is leading to an overshoot in the other direction for April.
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