The Fed's Bazooka (EP.137)

Episode Summary

Executive Summary: The episode centers on the COVID-era collision between collapsing economic activity and extraordinary Fed intervention. The hosts debate whether the rally is liquidity-driven, whether market returns should be lower if downside risk is backstopped, and how policy may reshape behavior, inequality, and credit markets. They also discuss consumer adaptation, private-market stress, and practical investing lessons.

Main Topics: Fed intervention vs. collapsing economy (Priority: 5/5): The hosts analyze the Fed’s emergency actions—lending facilities, municipal support, ETF buying authority, and possible high-yield purchases—arguing that policy support is overwhelming normal price discovery in a shutdown economy. Bear-market rally and market signaling (Priority: 5/5): They debate whether the sharp rebound is a dead-cat bounce, short-covering, or the market correctly looking through the valley toward 2021–2022 despite horrific current data. Future returns and risk suppression (Priority: 4/5): A key thesis is that if the Fed and fiscal policy remove tail risk, long-run equity returns may be lower because investors are being compensated less for bearing risk. Behavioral shifts and post-pandemic winners (Priority: 4/5): They assess claims that remote work, homeschooling, streaming, and other pandemic-era changes will permanently reshape society, and push back on several of the more extreme predictions while endorsing online grocery shopping as a durable change. Credit stress, zombies, and corporate debt (Priority: 5/5): The episode reviews stressed credit markets, junk bonds, munis, zombie companies, and fallen angels, framing these as signs that corporate leverage and refinancing risk remain central concerns. Investing behavior and household positioning (Priority: 4/5): They discuss evidence that Vanguard investors stayed disciplined while millennials at TD Ameritrade sold, plus target-date fund design, AAII cash shifts, and a volatility hedge product that worked exactly as advertised. Private markets under pressure (Priority: 4/5): Airbnb and Carnival Cruise are used as case studies in how private companies are raising expensive capital, protecting liquidity, and potentially coming out stronger after weaker competitors fail.

Key Arguments: The Fed’s lender-of-last-resort role matters more than strict market price discovery when the economy is effectively shut down. A massive policy backstop may reduce the severity of drawdowns but could also reduce expected future equity returns by removing risk. The market may be correctly discounting recovery well before the data improve, but the speed and size of the rally are still surprising. Some predicted structural shifts are overstated; online grocery shopping is likely more durable than full-time homeschooling or the end of offices. Credit distress is widespread: junk, munis, and corporate debt need support because liquidity fears can quickly become solvency fears. Long-term investing outcomes depend heavily on investor behavior; disciplined cohorts like Vanguard’s stayed invested, while more reactive groups sold. Volatility hedges can be valuable catastrophe insurance, but investors often underestimate the “premium” they pay when the protection is not needed. Private companies with strong brands and network effects may survive the crisis, but they are paying up for capital now to preserve optionality.

Data Points: Jobless claims over three weeks: 16.6 million - Used to illustrate the speed and severity of labor-market damage during the shutdown. Weekly jobless claims: 6.6 million - The latest claims number discussed at the start of the episode. U.S. labor force: ~165 million - Used to estimate the unemployment shock implied by three weeks of claims. Potential unemployment implied by claims: ~10% - Rough estimate from 16.6 million claims against a 165 million labor force. Fed loans to support markets: $600 billion - Emergency lending facility the hosts describe as a major Fed intervention. Fed support for states and municipalities: $500 billion - Municipal credit backstop aimed at preventing stress in muni markets. Small and mid-sized business loan terms: Up to 4 years; firms employing up to 10,000 people; revenue less than $2.5 billion - Described as part of the Fed’s emergency lending toolkit. S&P 500 performance YTD: Down 15% - Snapshot of market performance during the rally discussion. S&P 500 distance from highs: About 19% below all-time highs - Used to show how far the index had recovered from the bottom. S&P 500 performance over the prior year: Down 3% - Shows how recent gains offset the crash from a year-over-year perspective. S&P 500 over two years: Up 13% - Illustrates how strong 2019 had been before the crash. Stock-market decline speed: Quickest 30% drawdown in history - Used to emphasize the unprecedented pace of the selloff. Bear-market rally retracement: Nearly 37% of decline in 11 days - Cited from SentimenTrader analysis to show the unusual strength of the rebound. CTA short reduction in S&P 500: 11% reduction - Nomura data suggesting systematic funds were covering shorts. Vanguard ETF flows in Q1: $47 billion - Record quarterly inflows, all in equity ETFs. Disney+ subscribers: 50 million - Paid global subscribers reported after hours. Disney+ launch target: 60–90 million in five years - Current subscriber count nearly hit the low end of the five-year goal early. Disney+ annualized revenue estimate: $350 million - Referenced as the revenue contribution implied by the subscriber count. Disney market-cap increase: $9 billion - Market reaction to the Disney+ subscriber milestone. Tenant rent payments: 69% paid in early April - April 1–5 payment rate during the crisis. Prior rent payment rate: 81% in early March; 82% in April 2019 - Benchmarks showing how sharply payment behavior deteriorated. Airbnb revenue forecast: Down 54% to $2.2 billion from $4.8 billion - Projected impact of the pandemic on the private-market company. Airbnb expected losses: $1 billion in the first half; $674 million last year - Highlights the company’s cash burn and stress. Airbnb capital cushion: $4 billion - Raised the question of why additional capital is being sought. Airbnb private valuation: $50 billion to $30 billion - Shares in the private market reportedly fell from 150 to under 90. Carnival debt issuance: $17 billion - Debt sold despite travel shutdowns, showing the reach of liquidity backstops. Carnival bond yield: 12% - High yield demanded by investors for the cruise line financing. Collateral pledged by Carnival: $28 billion worth of ships - Security provided to attract debt buyers. Zombie companies: 1 in 6 U.S. companies - Defined as firms whose interest expense exceeds EBIT. Fallen angels expected in 2020: $215 billion - J.P. Morgan estimate of debt downgraded from investment grade to high yield. Target-date fund allocations: 55% stocks at T. Rowe vs. 33% at J.P. Morgan - Illustrates how widely target-date glide paths can differ for the same age cohort. Target-date funds in 401(k)s: 30% of 401(k) assets, up from 17% in 2014 - Shows the rise of target-date funds as default retirement vehicles. Universa March return: Up 3,600% - The volatility strategy’s payoff during the crash month. Universa example payoff: $10,000 became $371,000 - Illustrates convexity of catastrophe insurance. Millennial exposure at TD Ameritrade: Dropped below the average for all clients - Bloomberg data suggesting younger investors sold more aggressively. AAII cash holdings change: Second-largest one-month increase in survey history - March 2020 shift toward cash, behind only August 2007. Personal finance emergency fund: 3–6 months discussed; 9–12 months debated - Question raised about whether crisis changes standard reserve advice.

Pivotal Quotes: "The Fed is technically the lender of last resort. So this is their job." — Michael Batnick: Defense of aggressive Fed intervention amid panic in credit and equity markets. "It seems to prove that when business starts moving, credit will expand automatically, but the artificial creation of credit will not expand business." — Benjamin Roth (quoted from The Great Depression Diary): Historical contrast showing that Fed credit creation alone may not revive real activity. "If this thing only gives us the 35% decline, that would be, to me, just crazy." — Ben Carlson: Argument that policy backstops may be suppressing downside that would otherwise be much larger.

Implications: The episode suggests markets may be pricing policy support, not current fundamentals. For investors, the lesson is to expect lower returns, more policy dependence, and wider gaps between winners and losers in credit, private markets, and consumer behavior.