Analyzing the Efficacy of the Fed's Secondary Market Corporate Credit Facility

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Summary:

This article analyzes the effectiveness of the Secondary Market Corporate Credit Facility (SMCCF) in stabilizing the US corporate bond market during the COVID-19 pandemic. The SMCCF announcements in March and April 2020 significantly reduced credit spreads across different bond maturities, restoring a more typical upward-sloping yield curve. The Federal Reserve's bond purchases, though relatively small in scale, notably decreased credit spreads for eligible bonds compared to ineligible ones. The study's model suggests that market dynamics, including a rush to sell short-term safe bonds and increased investor risk aversion, contributed to the unusual yield curve inversion during the height of the pandemic. By reducing risk aversion and improving market conditions, the Fed's actions helped restore a more normal credit curve, particularly in the investment-grade bond segment.

Key findings:

1. The SMCCF program announcements in March and April 2020 significantly reduced credit spreads across bond maturities, restoring a typical upward-sloping yield curve during the COVID-19 pandemic.
2. Despite modest bond purchases, the Federal Reserve's intervention notably lowered credit spreads for eligible bonds compared to ineligible ones, indicating effectiveness in stabilizing market conditions.
3. Our theoretical model suggests that market dynamics, such as a "dash for cash" and increased investor risk aversion, contributed to an unusual yield curve inversion, highlighting the importance of the Fed's actions in restoring market stability.

Center Affiliation: Center for Quantitative Economic Research

JEL classification: E44, E58, G12, G14

Key words:COVID-19, SMCCF, credit market support facilities, event study, purchase effects, preferred habitat

https://doi.org/10.29338/ph2024-05

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