Report of Impact on Covid-19 Domestic Financial Institutions & Markets (Essay Sample)

Report about Impact of Covid-19 on Domestic Financial Institutions and Markets
Student’s Name
Course
Instructor
Institution
Submission Date
Word Count: 3000
Introduction
Financial markets entail a market context where securities and derivatives are traded at low transactions costs. It is also a practice that brings people together to facilitate the free flow of money to areas where it is most needed. For that reason, it can be argued that financial markets give people an opportunity to invest their money productively. Some financial securities where investors can invest their money include bonds and stocks. Initially, it was observed that many investors were making good returns from each financial security. However, an outbreak of the covid-19 pandemic has impacted financial markets and institutions of different countries in various ways. It is argued that the covid-19 pandemic influenced social and economic development and the operations of financial markets.
The impact of the covid-19 pandemic is reflected in the return of financial markets, the risk contagion, and the volatility of the financial markets. For that reason, the report has been prepared to examine the impact of covid-19 on domestic financial institutions and markets in the United States. Especially, the report covers the effects of the covid-19 pandemic on the money markets, the bond markets, the stock markets, and central bank intervention. Examples and illustrations have been applied in each topic to ease the understanding of the impact.
Question One: The Money Markets
Money markets are a subsection of financial markets and institutions where financial instruments involving short-term maturities and liquidity are traded. It (money market) is becoming a key component of financial market when buying and selling securities with short-tern maturities (one year or less maturity). Basically, money markets comprises of negotiable instruments which involves certificate of deposit, treasury bills and commercial papers to enable various participants like companies to raise funds through selling of commercial papers in the market (Ndugbu and Ojiegbe, 2019, pp37).
Money markets are considered as save places to invest money due to the high liquidity of the securities (Fabozzi, Mann and Choudhry, 2018, pp205). Generally, money markets are informal markets which unstructured and unregulated like other capital markets where activities are organized in a formal manner. Although money markets yield low returns for the investors, they offer variety of products in the financial markets. For that reason, investors are much motivated to invest funds in the money markets rather than holding the funds in cash without earning any interest. However, the outbreak of covid-19 pandemic has impacted the money markets as discussed in this topic. The topic also discusses the evolution of interest rates and credit spreads of money markets instruments, and the factors which caused the trends observed.
* Examining the Impact of Covid-19 Pandemic on the Money Markets; the pandemic has caused fear of subsidy among US traders and thus forcing them to sell the shares and treasuries due to pandemic lockdown. The US government has observed a rise in Treasury bond inversely to the government’s debt since the pandemic eased the traders to bet on the tight monetary policy within the country. After the declaration of covid-19 pandemic as a variant of concern by the World Health Organization, the sell-off yield of money market components like Treasury bond rose to the highest level. US money markets signal the growing comfort that the covid-19 pandemic will not facilitate the recovery. The pandemic has led to inflation pop up on the debt where a significant decrease has been evidenced since the outbreak of the covid-19 pandemic.
The inflation pops up caused nervous to a lot investors in the financial markets and institutions. The US central banks raised the interest rates on money market components to contain the pandemic. For instance, the move has raised investor’s optimism and expectations during the hard economic period. Another impact is the restriction on buying and selling of commercial papers-a move which has angered so many investors in United States. The pandemic also caused dash for cash (in terms of margin calls) where large investors withdrew their money, succumbing money markets into a surge in cash demand for wider financial markets and institutions. In the long run, this scenario has unwounded the leverage in the financial markets and thus raises in market volatility reflecting uncertainties in assets valuations. Presently, money markets in United States are building up weekly liquidity ratios to very higher levels to restore investor’s confidence.
* The Evolution of Interest Rates and Credit Spreads of various Money Market Instruments; from calendar of releases and historical chart, interest rate in US is averaged 5.47% from 1971 to 2021. In 1980, the United States interest rate reached 20% and recorded 0.25% in 2008. However, the evolution of interest rates is discussed under various sections (Homer and Sylla, 2020, pp19). The first section explains the evolution of safe real rates over time. The section shows that safe real rates declined steadily within advanced economies of United States after the disinflationary policies and central banks which attributed to ignorance of the high real rates in mid-1980. For instance, this decline was neither caused by the current covid-19 pandemic nor the global financial crisis, but more persistent factors. The section also shows that interest evolved from sovereign bonds which were constructed to distinguish between inflation forecasts and nominal rates in US.
However, the bonds were crucial safe for default and measure of the safe rate. The second section argues that the decrease increased the gap between safe rates and growth rates, increasing negative value of r-g. The section observed a slight decline in potential growth, decreasing interest in a much sharper. The third section explains the potential conditions for the decline of safe rates. The research shows that credit spreads evolved from the outbreak of covid-19 pandemic which generated large negative impacts on US financial markets (Chiarella, Fanelli and Musti, 2018, pp95). The credit spreads remained high during the financial crisis and begun to revert during covid-19 pandemic. However, the policy actions were embraced to respond to the first round of quantitative easing which entailed large scale purchase of mortgage backed securities. After three months, credit spreads elevated the values and the initial operations of the term asset-backed securities loan facility. For instance, this act was crucial for the containment of the rise in corporate bond credit spreads and the need of research to understand the driving force of corporate bond markets from various policy actions. Meanwhile, the above trends are illustrated by the diagrams below:-
Fig 3: Interest Rate Evolution Trend diagrams (https://fiscal-policy-under-low-interest-rates.pubpub.org/pub/q8xydmn5/release/1).
Fig 4: Evolution of Credit Spread (https://www.researchgate.net/figure/The-evolution-of-credit-spread_fig2_260141743).
* Factors which caused the above trends; the above trends were caused by conditions such as deferred consumption, inflationary expectations, alternative investments, liquidity preference, risks of investment and taxes (Knez, Litterman and Scheinkman, 2018, pp1861). For instance, deferred consumption denotes the delay in spending the loaned money for consumption goods. Inflationary expectations are a situation where people use given amount in buying fewer goods in the future than it is now. Some borrowers face a risk of going bankrupt and abscond on the loan. However, this scenario forces lenders to charge risk premium to ensure that the investments are compensated in case they fails (Fama, 2019, pp175).
Question Two: The Bond Markets
Bond markets are also referred to as debt markets and they are financial markets which deal with the issuing and trading of debt securities like government-issued securities and corporate debt. Bond markets are the largest security market which provides investors with virtually unlimited investment options. However, the topic discusses the impact of covid-19 pandemic on the bond markets, portfolio value, current yield and yield to maturity for various investment decisions.
* The Impact of Covid-19 Pandemic to Bond Markets; the pandemic plummeted the bond markets in US as the firms became less valuable. For instance, the plummet was attributed by the impend of economic crisis which cut down the firm’s dividends to make higher leveraged firms riskier especially for the participants who traded at the floor during the early of covid-19 pandemic. The pandemic forced US government to set up financial regulations and buying corporate bonds as a way of stabilizing the bond market. However, this scenario constrained the intermediaries and banks to a greater extent. Covid-19 pandemic also increased bond spreads but budged default swaps. For example, firms such as Google recorded a negative leverage as a result of the pandemic. From the impact, it was evidenced that the main reason why bond markets were hit by the covid-19 pandemic was due to liquidity (Gubareva, 2021, pp101826). For instance, many people were concerned with converting bonds into cash at once as the businesses and investors needed greater liquidity to prepare payroll. Following unemployment from the pandemic, individuals needed cash in hand for commitment purpose.
Essentially, the US government predicted...