The Federal Reserve said Monday that it will begin purchasing corporate bonds as part of a previously-announced plan to ensure companies can borrow through the bond market during the pandemic.
The program will purchase existing bonds on the open market, as opposed to newly-issued debt. The central bank said will seek to build a “broad and diversified” portfolio that will mimic a bond-market index. The bonds will have to be from highly-rated, investment-grade companies, or firms that fit that description before the viral outbreak struck.
The announcement boosted the stock market, which was already rebounding from early losses. The Dow Jones rose 0.8% in afternoon trading.
The Fed’s purchases should hold down corporate bond yields, making it cheaper for companies to borrow. But by also lowering the return from investing in those bonds, the Fed’s actions will likely encourage investors to shift money from corporate bonds to stocks in hopes of achieving a higher return.
When the Fed announced its bond-purchase program in March, few companies were able to issue bonds. Banks and other large investors were dumping assets in favor of cash. New research has found that simply by announcing the program, the Fed was able to encourage more bond trading and improve the market’s efficiency.
The Fed has said it will buy up to $750 billion of corporate bonds and exchange-traded funds made up of corporate bonds. The Treasury Department has provided the Fed $75 billion of taxpayer funds to offset any losses that occur from the investments.
Separately, the Federal Reserve Bank of Boston said Monday that banks can now register to participate in the Fed’s Main Street Lending program, which is intended to funnel more credit to small and medium-sized businesses.
Under the Main Street facility, the Fed will buy 95% of a loan from a participating bank, which removes most credit risk from the bank and frees up more capital for lending. The loans can be made to companies that either have up to 15,000 employees or $5 billion in revenue.
Lenders “are encouraged to begin making Main Street program loans immediately,” the Boston Fed said.
Treasury has also provided $75 billion to offset losses on Main Street loans, which can range from $250,000 to $300 million. The Fed has said it will spend up to $600 billion on Main Street. Fed officials have depicted the program as one targeted to companies that may be too large for the government’s small business loan program, and too small for the government’s bond buying program.