5 more moves the Fed is making to prop up the economy

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WASHINGTON — The Federal Reserve unleashed yet again another massive use of its emergency powers Thursday, announcing more than $2 trillion in additional support for mall and midsize businesses as well as state and local governments coping with the financial strain caused by the coronavirus.

The Fed debuted the much-anticipated Main Street Lending Program, established a Municipal Liquidity Facility to backstop cash-strapped state and local governments and said it would use the Paycheck Protection Program Liquidity Facility to provide additional funding to banks offering loans to struggling small businesses.

Those are in addition to a slate of actions the Fed has taken in the past month, which include a liquidity backstop for commercial debt issuers, a credit facility for primary dealers, the creation of a Money Market Mutual Fund Liquidity Facility and two additional facilities aimed at supplying credit to large businesses.

The Coronavirus Aid, Relief and Economic Security Act — which was signed into law last month — authorized $454 billion in emergency loans and encouraged the Fed and the Treasury Department to stand up programs to offer financial support to businesses and municipalities, which laid the groundwork for some of the Fed’s newest facilities announced Thursday.

“This is exactly what Congress told them that they should do. They wanted them to help out municipalities, they wanted them to help out small businesses,” said Ed Mills, a policy analyst at Raymond James. “We shouldn’t view this as the Fed saw something negative in the economy. … They are taking the mandate given to them from Congress and adopting it.”

Here’s a guide to all of the moves the Fed made Thursday to sustain the economy:

Main Street Lending Program

The Fed said March 23 it would create a business lending program for Main Street, and banks have anxiously been awaiting the details of that program ever since.

U.S. businesses with up to 10,000 employees or up to $2.5 billion in revenue will be eligible for loans through the program, the Fed said Thursday.

To obtain a loan, borrowers have to confirm that they are seeking financial support because of COVID-19 and that they will not use proceeds from the loan to pay off debt. Businesses also have to “make reasonable efforts to maintain its payroll and retain its employees in order to receive a loan."

The program has two components: the Main Street New Loan Facility and the Main Street Expanded Loan Facility. The Main Street New Loan Facility will issue loans up to either $25 million or four times the borrower’s 2019 earnings before interest, taxes, depreciation and amortization, while the Main Street Expanded Loan Facility allows banks to expand existing loans to borrowers up to either $150 million or 30% of the existing bank loan.

As specified in the CARES Act, borrowers through the program are required to adhere to restrictions on compensation, stock repurchases and dividend payments.

Borrowers can still obtain loans through the Main Street Lending Program if they have been granted loans from the SBA’s Paycheck Protection Program, but will only be able to use one of the Main Street facilities, and if they choose to do so, cannot use the Fed’s Primary Corporate Credit Facility.

The Fed is soliciting feedback on additional details of the Main Street Lending Program, including what the needs of borrowers are and any issues that might impede the facilities’ abilities to function, until April 16. However, there are no concrete details on when the program will officially launch, the Fed said.

“We would be surprised if the first loans are extended any sooner than the week of April 27,” Jaret Seiberg, an analyst with Cowen Washington Research Group, said in a note.

Paycheck Protection Program Liquidity Facility

The $349 billion Paycheck Protection Program was launched last week to provide emergency loans to businesses with less than 500 employees, but it got off to a rough start as some lenders have been facing more demand for loans than they are able to process.

Administered by the Small Business Administration and Treasury, the program is designed to help small firms pay their employees and cover expenses at time when social distancing has forced them scale back operations or shut down completely. Many of the loans — funded by banks, credit unions and other approved lenders — will be converted to grants if borrowers meet certain conditions.

The Fed on Monday announced it would step in to help provide financing to banks so that they could issue more loans to struggling small businesses.The central bank provided more information on the facility Thursday, saying that the Paycheck Protection Program Liquidity Facility “will extend credit to eligible financial institutions that originate PPP loans, taking the loans as collateral at face value.”

Lenders participating in the program will also be able to exclude loans financed by the facility from the leverage ratio, which should give financial institutions incentive to make more of the loans, Seiberg said.

“We believe this is a critical change that should encourage banks to expand Paycheck Protection originations,” he said.

The Fed said no details were yet available on when the facility might be available.

While all depository institutions will be eligible for the facility when it launches, the Fed will also be looking into extending the facility to nonbanks later on, officials said.

“For fintechs, the big question continues to be their ability to become eligible SBA lenders,” Mills said. “Are they going to continue to be used as part of the transition mechanism to get loans out to medium and small businesses?”

Fintechs including Kabbage have been itching to get involved with the Paycheck Protection Program. The online lender announced earlier this week that it would apply to become a direct lender through the program, and said it had already partnered with a bank to be able to offer the SBA loans.

“There’s concern about how fintechs will calculate eligibility and underwrite these loans compared to banks,” said Sam Taussig, the head of global policy at Kabbage. “But once a fintech has been approved by the SBA to work with their programs, there’s a reasonable level of certainty for the Fed. … That’s a robust litmus test and the Fed shouldn’t have a concern about lending with those fintechs.”

Cliff Stanford, a partner with Alston & Bird, said he didn’t believe the delay from the Fed and Treasury on issuing guidance for fintechs was intentional, but rather just “the reality of shifting a large bureaucracy.”

“A lot of fintechs have shifted and reoriented their business pretty quickly to work with banks and leverage their platforms to assist with the flow of data and everything else that’s required to assist banks with the programs they’re running,” he said. “That’s proven to be an opportunity. But I can’t tell you sitting here just how successful that’s been so far.”

Municipal Liquidity Facility

The Fed is also rolling out a Municipal Liquidity Facility to support state and local governments with up to $500 billion in lending, with the Treasury Department backing $35 billion for the facility using funds appropriated by the CARES Act.

That facility will make short-term financing available to cities with a population of more than 1 million or counties with a population of greater than 2 million.

The notes that municipalities will be able to sell through the facility should help cities and states get through a period of time with limited spending and lower tax revenues, the Fed said.

“The fact that [the facility] was announced this morning shows that Powell & Co. agree with lawmakers, mainly Democrats, that cities dealing with the public health crisis will be in dire financial straits shortly,” Ian Katz, an analyst at Capital Alpha Partners, said in a research note, referring to Fed Chairman Jerome Powell.

The Fed's creation of this facility is “an indication that municipalities are having major, major problems,” said Gilbert Schwartz, a partner at Schwartz & Ballen and a former Fed attorney.

“It's definitely a red flag that signals this exposure is not going to go away anytime soon, with the sheer expenses state and local governments cities will incur versus the tax revenue they're going to lose,” he said.

The Fed additionally said it would continue to monitor conditions in the municipal securities market to determine if more support is needed to bolster the flow of credit.

Expanded corporate credit facilities

The Fed’s Primary and Secondary Market Corporate Credit Facilities will expand in both size and scope to support up to $750 billion in credit to corporate debt issuers, the agency said.

The expansion will allow companies that were investment-grade before the onset of the coronavirus but then subsequently downgraded after March 22 — or “fallen angels”— to gain access to the facility. They “must be rated at least BB-/Ba3 at the time the facility makes a purchase,” the Fed said.

The facilities will also now have the ability to purchase a limited amount of high-yield exchange-traded funds.

If the economic fallout from the coronavirus continues, “there’s going to be pressure to expand what's eligible,” said Schwartz.

“If the Fed had a broader appetite to take potential losses from these programs, it would allow them to be more expansive — especially if they can reach below investment grade securities and help those people and businesses who are in trouble right now,” he said.

Expanded TALF program

The crisis-era Term Asset-Backed Securities Loan Facility will also be scaled up in scope, although not in size, to include the triple A-rated tranche of commercial mortgage-backed securities and newly issued collateralized loan obligations.

“The size of the facility will remain $100 billion, and TALF will continue to support the issuance of asset-backed securities that fund a wide range of lending, including student loans, auto loans and credit card loans,” the Fed said in a release.

The Fed said it is anticipating that an overwhelming majority of commercial mortgage-backed securities included in the program will be private-label, and it said the TALF program is open to legacy commercial MBS.

Private equity will not be an eligible asset class, the Fed added.

“With this, it looks like the Fed is being careful, but it’s also not afraid to take on some new risk and accept new asset classes,” said Stanford. “The downside — there are a lot of potential unintended consequences that can appear, like with the hedging of mortgage-backed securities.”

“That kind of stuff can create big problems in the market if the central bank moves in any direction,” Stanford said. “But I know they’re trying to be careful while calibrating the need to move and move fast in an emergency.”

Like the TALF program from the financial crisis, this one will also impose a haircut on pledged collateral. The haircut schedule mirrors the one used for the 2008 TALF program.

“This means the investor would be on the hook for losses up to the amount of the haircut,” said Seiberg. “The Federal Reserve will incur losses that exceed this amount.”

Neil Haggerty contributed to this story.

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Federal Reserve Small business lending Paycheck Protection Program SBA CMBS Coronavirus Liquidity Munis CLOs
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