Harrison: The Fed Has to Stop the Rot in the Real Economy

Your Real Vision Daily Briefing for April 9, 2020

Roger Hirst & Ed Harrison discuss the Fed’s intervention into high yield ETFs & whether that would spill over into equity markets to sustain shares.

  • The Fed’s pledge to buy recently downgraded corporate bonds is great for financial assets, but the biggest issue is still the real economy. 
  • To achieve a sustainable rally to an all-time high, the Fed may need to move further down into capital structure to support residual assets like equity and junk.
  • What’s happening in the real economy may trigger another sharp decline as passive investing algorithms automate scenarios involving human heuristics like loss aversion.

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The Fed is firing on all cylinders to solve liquidity problems, and its intervention into high yield ETFs is proof of that, Roger Hirst and Ed Harrison said during today’s Real Vision Daily Briefing.

They see the announcement not as the Fed moving down a slippery slope to junk, but as the central bank being more delineated. By backing fallen angels like Ford (F), they are still drawing a line in the sand between high yield and investment grade. Harrison said there’s a bifurcation between BND and LQD versus HYG and JNK.

He also said that while LQD and HYG saw similar rallies of 4% and 5% respectively following the announcement, that will unwind as junk companies default.

The Fed’s move may come as a relief for financial assets, but Harrison and Hirst were careful to point out the difference between the financial economy and the real economy.

“How can you get a rally to an all-time high that is lasting if the real economy is in the tank?” Harrison said. “Ultimately, I don’t care how much the Fed is injecting into the economy; they have to either A) stop the rot in the real economy, or B) buy all assets, not just fallen angels, but move further down into the capital structure to support those assets. Until they do that, it’s not going to be enough. The real economy is going to be the thing that holds over.”

Harrison and Hirst also discussed how the effects of the time lag of getting money to the real economy could trigger another steep decline, especially as passive investing algorithms replicate and automate actions based on past scenarios where human sentiment and reaction were largely at play.