SEC Staff Releases Report on U.S. Credit Market Interconnectedness and the Effects of the COVID-19 Economic Shock

The Securities and Exchange Commission today published a staff report titled U.S. Credit Markets: Interconnectedness and the Effects of the COVID-19 Economic Shock, which focuses on the origination, distribution and secondary market flow of credit across U.S. credit markets. The staff report also addresses how the related interconnections in our credit markets operated as the effects of the COVID-19 pandemic took hold. In addition, staff will host a Roundtable on Interconnectedness and Risk in U.S. Credit Markets to discuss the issues raised in the report on the afternoon of Oct.14.

In the U.S. credit markets, banking and non-banking entities and intermediaries are intricately and inextricably interconnected. These interconnections are essential for the functioning of the markets, the provision of credit and the distribution of risk. These interconnections can also transmit and amplify risks in times of stress. The report identifies these interconnections and, with that framework, discusses how the COVID-19 economic shock reverberated through the credit markets in March and April 2020.

The principal purpose of the report is to identify and place in context key structural- and flow-related interdependencies in the U.S. credit markets as well as areas of stress revealed by the COVID-19 shock, with an eye toward informing policymakers as they seek to improve the functioning and resilience of our financial markets. The report does not make policy recommendations. The report is accompanied by a cover letter from SEC Chairman Jay Clayton and SEC Chief Economist S.P. Kothari and will be discussed at the roundtable, which includes policymakers and market participants, on Oct. 14.

"I am grateful to S.P. Kothari, SEC Chief Economist, and the many members of our staff who contributed to this report," said Chairman Clayton. "We look forward to the Oct. 14 roundtable and welcome public comment."

Analytical Framework

The report identifies approximately $54 trillion of credit issued and outstanding in the U.S. financial system at the end of 2019 and broadly traces the flow of that credit through various intermediaries and prior holders to the ultimate holders of the credit at that time. It then takes a deeper look at interconnections across six key U.S. credit markets with a focus on their function during and after the COVID-19 shock. These six markets—short-term funding, corporate bonds, leveraged loans/CLO, residential and commercial real estate, and municipal securities—account for more than $40 trillion in outstanding credit.

Key takeaways from the report are:

• The U.S credit markets, in size, structure and function have changed significantly since the 2008 global financial crisis.
• The credit markets are highly interconnected, which can both accelerate risk transmission and facilitate risk absorption.
• The ability of intermediaries (e.g., "market makers") to absorb significant, rapid shifts in investor sentiment (e.g., a "dash for cash") is limited in absolute terms and may become more limited as spreads widen and volatility increases during periods of stress and uncertainty.
• Due to the interconnected nature of our credit markets and the size and scope of the COVID-19 shock, it was insightful, prudent and, perhaps, essential that the actions of the Federal Reserve and the CARES Act were multi-faceted and immediate.  Those actions were instrumental in ameliorating stress in the credit markets, particularly the short-term funding markets.
• The combination of the Federal Reserve’s intervention and the CARES Act also was extremely important in stabilizing prices (e.g., housing prices) and sustaining economic activity (e.g., consumer spending), which in turn added stability to the credit markets.
• Banks and the banking system have been resilient to the COVID-19 shock to date notwithstanding their exposure to several trillions of dollars of residential and commercial mortgages and leveraged loans to corporations.

Oct. 14 Roundtable

The Oct. 14 roundtable announced today will bring together U.S. and international regulators as well as other experts to discuss the interconnections within our capital markets and the impact of the COVID-19 economic shock. Chairman Clayton will host a fireside chat discussing the interconnections between banking and non-banking entities and intermediaries in the U.S. credit markets. The first of two panels will feature leading market participants discussing the impact of COVID-19 on the six credit markets discussed in the report. In the second panel, U.S. and international regulators will address the interconnectedness of the market from a regulatory perspective. This will include a discussion on the areas where the markets functioned well, areas that were stressed, and where further attention may be warranted.

Members of the public who wish to provide views on the issues raised in the report may submit their views electronically to Credit_Market_Interconnectedness@sec.gov or use the Internet submission form. Comments may be submitted either in advance of or after the roundtable. Information that is submitted will be posted on the SEC’s website.  All comments received will be posted without change. Persons submitting comments are cautioned that we do not redact or edit personal identifying information from comment submissions. You should submit only information that you wish to make publicly available.

Roundtable on Interconnectedness and Risk in U.S. Credit Markets

Oct. 14, 2020

1 p.m. Welcome and Introduction

• SP Kothari, Chief Economist and Director of the Division of Economic and Risk Analysis, SEC

1:10 p.m. Panel 1:  Market Perspective

The economic shock of COVID-19 impacted liquidity and price volatility in our capital markets.  It also brought to light some of the changes that have taken place since the 2008 global financial crisis, including regulatory reforms, changes in market structure and the growth of credit. This panel will focus on six credit markets spanning over $40 trillion of outstanding debt, including the short-term funding, corporate bond, leveraged loan, residential and commercial real estate, and municipal securities markets.

Moderator:   Sumit Rajpal, Senior Policy Advisor, SEC

• David Finkelstein, Chief Executive Officer, Annaly Capital Management
• Dawn Fitzpatrick, Chief Investment Officer, Soros Fund Management
• Steven Goulart, Executive Vice President and Chief Investment Officer, MetLife, Inc.
• Barbara Novick, Vice Chairman, BlackRock
• Thomas Wipf, Vice Chairman of Institutional Securities, Morgan Stanley

2:10 p.m. Break

2:20 p.m. Fireside Chat

In the U.S. credit markets, banking and non-banking entities and intermediaries are intricately interconnected.  These interconnections are essential for the functioning of the markets and the provision of credit, but these interconnections can also transmit and amplify risks.  The COVID-19 economic shock reverberated through the credit markets in March/April 2020 and the ripple effects continue to be felt. Participants in the fireside chat will discuss these and other issues.

Moderator:  Jay Clayton, Chairman, SEC

• Mark Carney, COP 26 Finance Adviser and UN Special Envoy
• Gary Cohn, former Director of the U.S. National Economic Council
• Glenn Hutchins, Chairman, North Island
• Lorie Logan, Executive Vice President, Markets Group, Federal Reserve Bank of New York          

3:20 p.m. Break

3:30 p.m. Panel 2: Regulatory Perspective

The COVID-19 economic shock tested the resilience of the U.S. and international financial markets and the effects of monetary interventions and fiscal measures in jurisdictions around the globe. This panel will discuss what areas of the markets functioned well, which areas showed signs of stress, and where there may still be vulnerabilities.

Moderator:  SP Kothari, Chief Economist and Director of the Division of Economic and Risk Analysis, SEC

• Tobias Adrian, Financial Counsellor and Director, Monetary and Capital Markets Department, International Monetary Fund
• Natasha Cazenave, Deputy Head of the Policy and International Affairs Directorate, Autorité des Marchés Financiers (France)
• Andreas Lehnert , Director, Division of Financial Stability, Board of Governors of the Federal Reserve System
• Brent McIntosh, Under Secretary for International Affairs, U.S. Department of the Treasury

4:30 p.m. Closing Remarks

Mohamed El-Erian, President of Queens’ College, Advisor to Allianz and Gramercy