ECB following the Fed's lead

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      By Eric Stein, CFACo-Director of Global Income, Eaton Vance Management

      Boston - I suspect the markets will be watching the US Federal Reserve (Fed) this week when the Federal Open Market Committee (FOMC) starts its two-day policy meeting on April 28, culminating in an interest rate decision followed by a press conference with Fed Chair Jerome Powell on April 29.

      However, I think it's far less important to focus on FOMC meetings in the current environment, largely because the Fed can make an announcement at any time, as we've witnessed since the market downturn in early March during the initial shock of the coronavirus pandemic.

      Since then, we've started to see certain details of various programs, specifically the Fed's corporate credit buying program and its commercial paper facility. We're still waiting for more details on some programs, namely the Term Asset-Backed Securities Loan Facility (TALF). But generally speaking — and from a market functioning perspective — the Fed has done quite a good job to date.

      ECB's approach is similar to the Fed's

      What's going on with the European Central Bank (ECB) is also quite interesting. The ECB will allow some debt to continue to be used as collateral by banks in the event of downgrades to below investment grade status. With the exception of asset-backed securities, assets that were rated the lowest investment grade of BBB- as of April 7 would remain eligible to be used as collateral for loans from the ECB, provided they remained in the upper tier of credit quality criteria for non-investment grade assets.

      This move was largely in anticipation of Italy being downgraded. If that happens, it shouldn't affect the ability for banks to use Italian debt in collateral and repo operations. Such an approach is similar to what the Fed did with so-called fallen angels — issues that have been downgraded from investment grade to non-investment grade status — with its announcement that it would buy fallen angels, as long as those securities had investment grade credit ratings at some point in March.

      As of now, the ECB hasn't changed anything with regard to its asset buying programs. But it likely will, according to the ECB, "if and when necessary... take additional measures to further mitigate the impact of rating downgrades, particularly with a view to ensuring the smooth transmission of its monetary policy in all jurisdictions of the euro area." We could learn more when the ECB makes its policy announcement on April 30.

      It's clear to me that the ECB and the Fed have chosen to keep credit rating downgrades from causing another selling spiral in the broad markets. From this perspective, at least, I don't think rating actions are going to deter the Fed, the ECB or any other central bank.

      Bottom line: As has been the case throughout this crisis, the Fed has been leading the way in showing how quickly one central bank can act to influence positive change. Given the success of the Fed's actions over the past six weeks, I look forward to hearing the press conference with Chairman Powell — particularly what questions will be asked and, even more importantly, the message that Powell tries to get out. It's possible that a couple of new programs will be announced but again, those could come at any time.