Fed pledge on junk bonds could create ‘zombie companies’

[ad_1]

Mohamed El-Erian told CNBC on Monday he worries that unprecedented action by the Federal Reserve in response to the coronavirus crisis could have an impact on a critical characteristic of the U.S. economy. 

“The Fed opened up the high-yield market for almost everybody and that raises the specter of of zombie companies,” the Allianz chief economic advisor said on “Squawk Box.” “We’ve got to be careful about this because that eats away at what makes America special. That’s the reason why we don’t ever bet against America, because of its dynamism.”

The Fed in early April expanded its list of programs designed to support the U.S. economy as it grappled with the shock from the Covid-19 pandemic. The central bank said it may possibly buy exchange-traded funds of high-yield bonds, often called junk bonds. The Fed has not actually bought any yet. But it did provide investors the assurance that the Fed would be there if the market faltered. That has set corporate bond offerings on fire across all investments grades.

“My own sense is the Fed went too far in going into the high yield market, but I understand why they did it,” El-Erian said, noting the extraordinary times. “But on the other hand, you get people who shouldn’t be borrowing raising money.”

El-Erian’s comments Monday came after Berkshire Hathaway’s annual shareholder meeting on Saturday, during which legendary investor Warren Buffett issued a strong message for people who are worried about the consequences of the coronavirus.

“Nothing can basically stop America,” Buffett said. “The American miracle, the American magic has always prevailed, and it will do so again.”

Buffett also praised the leadership of Fed Chairman Jerome Powell, arguing the quick action by the central bank has been a significant boost to financial markets.  

“Every one of those people that issued bonds in late March and April ought to send a thank you letter to the Fed because it wouldn’t have happened if they hadn’t operated with really unprecedented speed and determination,” Buffett said. 

El-Erian said Buffett rightly pointed out that the Fed’s response to the crisis has helped in “normalizing markets quickly.”

— CNBC’s Tom Franck and Yun Li contributed to this report.  

[ad_2]

Source link