On Sunday, the U.S. Federal Reserve announced several measures intended to provide liquidity and restore confidence in the markets:

• An emergency rate cut: Fed Funds Rate was cut 100 bps to 0.00% to 0.25%.
• The Fed is committed to keeping rates at the zero lower bound until “it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals.”
• Chair Jerome Powell said he does not see negative policy rates as they are “not likely to be appropriate here.”
• This cut was the minimum expected, but the timing was a surprise.
• Interest on Excess Reserves (IOER) was cut to 0.10% from 1.10%: This is the amount the Fed pays banks and is intended to encourage banks to lend.
• The Reverse Repurchase Program (RRP) offering rate was cut to 0.00% from 1.00%: This sets a lower bound for interest rates and affirms Powell’s statement that negative rates are not being considered.
• The Fed also lowered the interest rate charged over OIS (overnight indexed swap rate) from 0.50% to 0.25% on standing swap lines with five foreign central banks (Bank of Canada, Bank of England, Bank of Japan, European Central Bank, and Swiss National Bank). Terms are 84 days in addition to the existing one-week operations.
• The discount rate was cut to 0.25% from 1.75%. This is the rate at which banks can borrow from the Fed. The term has been extended from one week to three months.
• Reserve requirement ratios were reduced to 0% effective March 26 (the next measurement date) to encourage lending.
• Asset purchases (beginning Monday) of at least $700 billion; including $500 billion in U.S. Treasuries and $200 billion in agency mortgages.

While the equity markets were down sharply Monday, there was marginal improvement in fixed income liquidity. Some perspectives:

• Liquidity somewhat improved Monday but remains challenging in municipals. Valuations, however, remain very attractive relative to taxable fixed income. Ratios across the curve are roughly 200% relative to U.S. Treasuries. Liquidity rather than credit fundamentals continues to be the issue in broad terms. Certain sectors may be challenged but the recent sell-off is broad-based and indiscriminate.
• Even safe assets, such as U.S. Treasuries and agency mortgage-backed securities, continue to face liquidity challenges. We are approaching quarter-end, and risk aversion from dealers has contributed to wider bid/ask spreads. Selling from ETFs has also been a factor.
• Trading in credit has improved modestly from last week though bid/ask spreads are still wider than normal. The Fed could consider monetary policy tools used by other central banks (e.g., add corporate bonds to its asset purchase program).
• Short-term markets are functioning better, though the commercial paper (CP) market remains in disarray. Credit spreads are still widening but not at the same magnitude as last week. Lenders (investors) want to buy shorter-term maturities while issuers want to issue longer-term paper. The Fed can do more to bridge this liquidity gap and expectations are that it will. The Fed is encouraging CP issuers to draw down lines of credit from banks rather than issue paper at high rates, but issuers are reluctant to do so given associated negative optics. The CP market is NOT frozen (transactions are occurring) but bid/ask spreads remain relatively wide. The Fed intervened in the commercial paper market in October 2008.
• Equity index options, an important vehicle for many market participants to hedge risks, have also faced liquidity challenges.
• Managers broadly do NOT expect negative rates.
• Most believe that the monetary response needs to be complemented by stronger fiscal policy measures. While a package is making its way through Congress, more can and should be done to help hard-hit industries, small businesses, and families that need help.
• Banks remain a bottleneck for liquidity between the Fed and other market participants, such as asset managers.
• The passage of time could also allow liquidity conditions to improve as the Fed has announced future increases to the size of its balance sheet.
• Projections with respect to the toll on human health and the economic impact of this crisis vary widely and are fluid.
• From our own Jay Kloepfer: “While the circumstances are different, we have in fact been here before, at zero interest rate policy, and the Fed response and levers stem from lessons learned in the Global Financial Crisis, namely that facilities that took a while to develop back then are in place immediately now, to help ease the flow of liquidity. These market conditions will NOT last forever. The Fed moved aggressively on monetary policy and used up all of its remaining interest rate bullets in one move, erasing the last 4 of the 9 rate hikes. However, there are more monetary policy options available. These initial monetary policy moves, to zero, are perhaps not the best way to stop the market decline and rescue the economy in this situation, but they are viewed by many as the table-setter for establishing market normalcy and providing the base for stimulative fiscal policy, which will be needed to better initiate a recovery. The urge to reduce risk is real, but the markets may have already taken care of this for you.”

These are trying times, and the health and safety of you, your clients, and your families remains top of mind for us. Please reach out if there is anything we can do to help.