The market’s attention this week was focused on the Bank of England’s decision to purchase £10 billion in corporate bonds over the next 18 months. By doing so Mark Carney, like Draghi, has opened up a Pandora's box, since ultimately corporate debt is nothing more than post-petition equity, and all it would take to make the BOE (or ECB) an activist stakeholder in an legal process is for the obligor to go bankrupt. Consider the following scenarios.
- The Bank of England purchases a corporate bond of XYZ British Corporation and 2 years later, the company goes bankrupt. What will the BoE do? Will it sit in the bankruptcy table and negotiate with other creditors? Does it even have the legal authority to do so? Essentially they are gambling with the taxpayer's money.
- If a large foreign company wants to take over a British corporation and the BoE happens to own their debt, how will the act? Can they sell the debt into a market that is already pricing a corporate event? Will the act as an activist investor, lobbying for one outcome?
- What possible connection is there between economic growth and corporate purchases?
And while we can't wait to see Draghi or Carney spearheading an unsecured creditor committee (while the SNB is engaged in a valuation fight as the head of the equity committee), it is point 3 is most worrisome. No matter who the talking head with a PhD is or what they are trying to dissuade you, there is no guarantee that simply buying bonds (especially corporate debt) will lead to controlled inflation or unemployment? If, for one moment, purchasing debt was the solution to our troubles, shouldn’t asset managers (hedge funds, mutual funds, pension funds, insurance companies) be the economy’s best friend? If all Britain needed post-Brexit was an additional £10 billion, why not have the private sector raise that money and corner the market? At least they would be risking private and not public capital?
Central banks are taking us to a place with no precedent, which is becoming more dangerous by the day: not a single "expert" dares to refute any more that the only reason the S&P500 is at record high is because global central bank QE has hit a record $180 billion per month.
Worst of all, they are doubling and redoubling down at every occasion, with the naive excuse that they are reducing corporate funding costs in hopes of stimulating growth. If that was the issue, why are companies repurchasing stock at record levels, making the shareholders richer in one slow, creeping MBO instead of investing in growth and CapEx, as we previewed all the way back in 2012? When will the luminaries at Eccles or the BoE ask themselves these questions and come up with logical, honest conclusions? As this charade continues, it is the average citizen who is paying the price. With virtually earning 0% at every bank (if not negative rates), and their tax money being risked by unaccountable bureaucrats, it is time we stop this madness. Perhaps instead of endlessly wondering why 2% growth is not attainable, it is worth realizing that overburdening the world with debt significantly burdens any other economic activity, and the main culprits will be the Central Banks.
Then again, maybe we won't have long to wait.
As Bank of America's Barnaby Martin calculates, following the BOE relaunch of QE, "around 45% of the global fixed income market is now “compromised” by central bank buying."
According to BofA, the winners of the BOE's latest scramble, will not be consumers or the economy, but debt markets that are untouched by central banks. For now.
As for the loser of QE, it is a well known one: volatility, also "for now."
With 2 corporate QEs now ongoing in Europe, the loser is market volatility. Note how unresponsive credit spreads has been to the drop in the oil price since June. True, seasonals may be behind the latest oil price decline, rather than something more menacing. But as chart 8 shows, the credit market was highly positively correlated with the oil price in the first quarter of this year (correlation between the iTraxx Crossover index and oil was 90%). Now the credit market is ignoring oil and the correlation has declined significantly and is now negative (-50%). In fact, the correlation between oil and US high-yield energy spreads has conspicuously broken down (chart 9).
Macro risks are thus playing second fiddle to corporate QE policies (and note in the case of oil risks and credit, 31% of the CBPS eligible universe is utilities!).
The true test, in our view, of whether central banks really aim to tighten spreads will be if they prevent future sell-offs in credit should macro risks become more daunting. If the ECB and BoE buy relatively more corporate bonds in the next sell-off then we shall have our answer…
What Martin does not mention is that with every incremental QE, there is less outstanding debt in private hands, and less possible supply, hence the higher price, and less ammunition for QE. And while volatility is indeed a "loser" for now, as central banks fast approach the 50% global debt "compromise" threshold, at which point further QE becomes self-defeating, we expect this "biggest loser" to quickly become the biggest winner the world has ever seen.