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Backed by the Fed, Corporates Borrow Record Amount
Despite the worst selloff for credit since the great financial crisis, investment grade companies set a record level of new issuance in March. The thawing of primary market activities comes just two weeks after the Fed returned to its crisis-era playbook, announcing several new emergency lending facilities to contain the fallout of the COVID-19 pandemic—including the unprecedent measure of purchasing investment grade debt in both the primary and secondary markets. Facing evaporating liquidity and a severe contraction in credit conditions, the Fed effectively moved to become the liquidity provider of last resort to facilitate price discovery, reopen primary market activity and stave off the risk of a potential credit crisis.
Bloomberg Financial Conditions Index and ICE BofA US Corporate Bond Index
By directly intervening in the corporate credit market, the Fed allowed companies to shore up their liquidity situations in the face of what could be several quarters of severe earnings declines. Corporates responded with a record month of new issues, bringing $262 billion of corporate supply to the market. Most of the new issuance came from high-quality borrowers, with more than 70% of issuance rated A or better.
While the Fed helped establish a floor under corporate borrowers, investors still required some incentives to buy new issuance. For borrowers, access to capital is much more important than the cost of capital, and companies have been willing to pay higher borrowing costs with average concessions of 30bps relative to existing trading levels. The attractive concessions and cheap valuations drove significant interest from investors, with demand for deals outpacing final supply by an average of nearly five times.
Credit Spreads for Investment Grade and High Yield Bonds
High yield credit was notably absent from the Fed’s primary market support, but there have been knock-on benefits for junk issuers, too. A resurgence in risk appetite has helped slowly reopen primary market activities for higher-rated high yield borrowers, though investors have required similar concessions as investment grade borrowers. Most of the deals have been for secured paper, at shorter maturities and with concessions of nearly 100bps to existing debt.
While volatility is likely to continue as investors attempt to price in the economic consequences of this pandemic, record supply and strong demand are meaningfully positive signs for credit markets, suggesting the left tail risks of a credit crisis have been reduced and investor risk appetites are stabilizing.
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