A few days ago, I looked at some comments made by Howard Marks (Trades, Portfolio) about the U.S. Federal Reserve and Treasury’s ongoing economic interventions. In his memo, Marks wondered whether the government could continue to "simulate" the real economy for a sustained period of time.
An important aspect of this discussion was the new tools that the Fed has deployed to combat the latest market downturn, including the purchase of corporate bonds.
On March 19, Marks did an interview with Bloomberg to discuss what the long term consequences of this might be.
Kids like candy and investors like low rates
The basic logic behind the Federal Reserve’s interventions is to inject liquidity into the financial markets and thus to restore investor confidence. Marks likens this to a bowl being supported by a fountain of water - it stays up as long as the pressure is high, but once it starts to slacken, the bowl starts to fall. Marks doesn’t seem to believe that the Fed can keep the bowl up, especially because investors didn’t like it when the central bank tried to tighten monetary policy in the past.
For instance, the Fed tried to raise rates in 2019, but ended up doing a complete 180 when the stock market started wobbling. It remains to be seen whether investors will keep buying securities if the central bank steps back. Marks said that investors need to be more worried about the possibility of eternal Federal Reserve interference in the credit market:
“I personally believe that there is too much concern with the downside of withdrawing the support, and not enough concern with the downside of never withdrawing the support. And I think that if it had been done earlier and gradually, it could have been done...There was a little bit of a temper tantrum at the end of 2018 when the interest rate on the 10-year Treasury reached 3.25%. Kids like candy, and investors like low rates, but we have to have discipline also.”
An example of how differently the credit market has been behaving recently was cruise company Royal Carribean's (RCL, Financial) sale of more than $3 billion in secured debt at a yield of around 11%. There are few sectors that are in worse condition than the cruise industry at the momnet. Cruise ship operators have virtually no expected revenues, a blow to their reputations and often very weak balance sheets. However, this operator was able to tap the capital market relatively easily.
Even if the cruise ship industry recovers faster than expected, these still seem like overly rosy terms for a troubled company like Royal Carribean to have received. It might seem like a good idea to bail out troubled businesses in uncertain times like these, but we need to think about the long term consequences of our monetary actions.
Disclosure: The author owns no stocks mentioned.
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