Working Paper: NBER ID: w29777
Authors: Viral V. Acharya; Ryan Banerjee; Matteo Crosignani; Tim Eisert; Rene Spigt
Abstract: We document capital misallocation in the U.S. investment-grade (IG) corporate bond market, driven by quantitative easing (QE). Prospective fallen angels—risky firms just above the IG cutoff—enjoyed subsidized bond financing in 2009-19. This effect is driven by prolonged cumulative Fed purchases of securities inducing long-duration IG-focused investors to rebalance their portfolios towards higher-yielding IG bonds. The benefiting firms (i) exploited the sluggish downward adjustment of credit ratings after M&A to finance risky acquisitions with bond issuances, (ii) increased market share affecting competitors' employment and investment, but (iii) suffered severe downgrades at the onset of the pandemic.
Keywords: Quantitative Easing; Corporate Bonds; Capital Misallocation; Fallen Angels
JEL Codes: E44; E52; E58; G01; G20
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| quantitative easing (QE) (C54) | capital misallocation in the corporate bond market (G32) |
| prolonged cumulative purchases of securities by the Fed (E50) | distorted prices for BBB-rated bonds (E43) |
| distorted prices for BBB-rated bonds (E43) | increased bond financing for prospective fallen angels (G24) |
| investor demand for riskier bonds (G12) | issuance by prospective fallen angels (G24) |
| correlation between investor exposure to QE and bond holdings (G19) | increased likelihood of holding bonds from downgrade vulnerable firms (G32) |
| issuance by prospective fallen angels (G24) | financing M&A activities (G32) |
| bond market subsidy for prospective fallen angels (G12) | negative impact on competing firms (F61) |
| negative impact on competing firms (F61) | lower employment and investment growth in industries with higher concentration of prospective fallen angels (O16) |