Ed Yardeni Slams the Fed for Setting Up a Market Slide

When the S&P 500 took a dizzy dive of 2.6% on Wednesday, it called to mind how precarious the current COVID-19-era bull run is. None of this comes as a surprise to Edward Yardeni, an investment guru of a bearish bent.

To economist Yardeni, the chief villain in what he sees as an overheated market is the Federal Reserve. “If the Fed persists in flooding the markets with liquidity,” he wrote in a note to clients of his Yardeni Research, “the risk is that the Fed will create the greatest financial bubble of all times.”

To Yardeni, the central bank has gone way too far. “The goal was to restore liquidity to the credit markets,” he wrote, and they don’t need any more medicine. “They are clearly functioning well again.”

In March, the bond market and other credit-oriented activities seized up amid panic over the onset of the outbreak. In response, Congress approved a $2.2 trillion rescue package, and the Fed upped the ante: After pushing shorter-term interest rates to almost zero, it embarked on a bond-buying spree that now has reached $3 trillion and counting.

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The Fed’s latest iteration of this campaign is to buy corporate bonds, something it never has done before. Some of them are junk-rated, which conjures up that delightful phrase “moral hazard.” (To wit: If the Fed will bail you out, why bother with assessing risk?) And the heedless risk-on spirit extended to the equities arena, too.

The Fed’s policy set off a strong stock rally that erased the February-March correction’s steep losses. And, at least until yesterday, when news of infection surges in the South and West jolted investors, the market was in what Yardeni calls the “Mother of All Meltups.” And one that could lead to a severe crash, he warned.

Yardeni found the spring rally eerily reminiscent of the dot-com skyrocket in 1999, which went out with a bang in early 2000. A similar tumble could result “if the Fed continues to spike the punch bowl,” the economist wrote.

He also criticized the Fed for its fixed-income purchases, which helped spawn record bond issuance lately, of $1 trillion for investment grade companies—a lot of it on the lowest rung before junk-ville, BBB—and $177 billion in high-yield paper, according to Standard & Poor’s.

“It’s hard to understand why the Fed feels obligated to support both the buyers and the sellers of these dodgy bonds since they all well understood the riskiness of owning and issuing BBB-rated debt,” he contended. “The Fed is stoking moral hazard.”

In Yardeni’s eyes, the willingness of young day traders on sites like Robinhood to buy a new stock issue from Hertz Global Holdings, now mired in bankruptcy court, shows a market top. The car rental company, under pressure from the Securities and Exchange Commission (SEC), scrapped the offering, yet the mindset from enthusiastic investors was unnerving to Yardeni.

Appearing on a podcast hosted by newsletter editor James Grant on Wednesday, Yardeni counseled against continuing to ascend the stock market’s giddy heights. “The more you make,” he said, “the more you should want to cash in.”

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Tags: BBB, Bear Market, Coronavirus, COVID-19, Edward Yardeni, Federal Reserve, high-yield, investment grade, moral hazard, rally, S&P 500, Yardeni Research

Social bond growth is outpacing that of green bonds, and issuance has quadrupled so far this year as the sustainable finance instrument has become an unexpected weapon in the economic fight against COVID-19, according to S&P Global.

The growth of social bonds this year has exploded, despite the weakening of credit conditions, and is bucking the trend of the global fixed-income market, for which S&P forecasts issuance volumes will decline 9% this year.

The social bond rally is “portending a pivot away from a historically climate-centric sustainable debt space and reflecting a diversification of sustainability objectives financed by investors,” according to S&P. “And, while the recent surge may have been precipitated by COVID-19, the appeal of social bonds as a sustainable finance instrument may endure long after its effects have subsided.”

S&P said the recent growth in social bond issuance indicates that instead of turning issuers and investors away from sustainable finance, the pandemic seems to be spurring interest in the financial instruments.

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As a result of the recent propagation of social bonds, the International Capital Market Association (ICMA) updated its social bond principles earlier this month to include an expanded list of social project categories and target populations. The project categories include, but are not limited to, affordable basic infrastructure, access to essential services, affordable housing, employment generation, food security, and socioeconomic empowerment and advancement.

Social bond principles are voluntary guidelines that recommend transparency and disclosure and promote integrity in the development of the social bond market. According to the ICMA, they are intended to provide issuers with guidance on the key components involved in launching a credible social bond, aid investors by promoting availability of information necessary to evaluate the positive impact of their investments, and help underwriters by moving the market toward disclosures that will facilitate transactions.

S&P said it believes the updated principles could encourage greater issuance of social bonds, and that, as the trend continues, social bond reporting and disclosure practices will gain significance, particularly concerning so-called “social washing,” which is when an issuer misrepresents the social impact of its financed projects.

However, “while significant steps have been made to standardize social bond disclosure and reporting, we believe issues persist and improvements have been slow to proliferate,” S&P said.

Despite the strong growth in the market so far this year, social bonds still only make up a small portion of the overall sustainable debt market, which also includes green bonds, sustainability bonds, green loans, and sustainability-linked loans and bonds. According to the Climate Bonds Initiative (CBI) social bonds made up approximately $20 billion, or only 5% of the $400 billion in sustainable debt issuance in 2019.

However, that figure will likely increase in the coming years as $32 billion of “social” and “sustainability” bonds were issued in April, according to Morgan Stanley, marking the first month in which social and sustainability bond issuance surpassed green bonds.

“Undoubtedly, much of this rapid growth can be attributed to the effect of the COVID-19 pandemic,” S&P said, “which has accelerated issuance of social bonds to finance both public and private responses and create positive social outcomes, especially for target populations.”

For example, in March, the International Finance Corporation (IFC) completed its largest-ever social bond issuance to finance its response to COVID-19, and the African Development Bank launched a $3 billion social bond called “Fight COVID-19,” which was the world’s largest dollar-denominated social bond transaction to date, according to the Institute of International Finance. And in April, Guatemala became the first country to issue a sovereign social bond for financing COVID-19 response efforts. The proceeds were allocated to causes such as health infrastructure improvements, food security, support for businesses and professionals, and preventative health and medical practices.

“As the crisis unfolds, we believe a number of supranational, government agency, and corporate COVID-related issuances will likely follow,” S&P said.

The downside for social bonds is that the tracking and reporting on them is still new and remains without standards, unlike green bonds, whose impact can be tracked using more easily quantifiable and science-based metrics, such as reduction in greenhouse gas emissions or energy use. This lessens the chance of an issuer overstating the true environmental benefit of a transaction and misleading market participants.

“The standards surrounding social bonds, however, are more complicated because assessing social impacts tends to be more qualitative and less standardized than for green projects,” S&P said.

Although the social bond market is still small, S&P said it believes the right moves are being made to allow sustained capital to move toward socially beneficial objectives.

“The recent surge in social bond issuance to address the COVID-19 pandemic has given investors the rare opportunity to evaluate an entity’s commitment to its stakeholders,” said S&P. “Improved transparency and reporting practices will ultimately help reduce some of the social bond risks, including social-washing, and solidify investors’ confidence in the asset class as it grows.”

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Tags: Climate Bonds Initiative, Coronavirus, COVID-19, Green Bonds, International Capital Markets Association, Pandemic, S&P, social bonds, sustainable bonds