Fed expands scope of 'Main Street' loan program

Yahoo Finance's Brian Cheung breaks down the latest from the Fed.

Video Transcript

MYLES UDLAND: All right, let's talk a little bit, as we always do, about the Federal Reserve coming out with even more news. Today, Brian Cheung, feels like just yesterday that we were sitting here talking about Jay Powell and his latest press conference that the Fed is doing. Of course, it was yesterday that all that news is made. And then today they amended their Main Street lending facility-- a technical update. But what did the Fed announce?

And, I guess, from your vantage point, what does this change about what the Fed is trying to accomplish here? And it brings to mind a quote that Powell had yesterday, which is, you know, we can lend money. We can't spend money. But how would they lend the money out or how they approach lending the money tells a very large, you know-- it sends a very big signal to Congress about how Congress should spend that money.

BRIAN CHEUNG: Yeah, but more importantly, the other quote that he said shortly after that was we won't run out of money. And that's exactly what is the case with the mainstream lending program. That's what the Federal Reserve announced earlier this morning. On the Main Street lending program, which was supposed to target those businesses that are larger than those that qualify for the Paycheck Protection Program as passed by the CARERS Act but are too small to access capital markets-- that's what a lot of those large publicly traded companies are.

Now Main Street lending program originally when it was announced in April-- or the beginning of this month-- was really supposed to target businesses smaller than 10,000 employees or with revenue of less than $2.5 billion, the Fed, today, raising that bar, saying that actually now it will allow companies with up to 15,000 employees and with revenue of up to $5 billion to qualify for this program, which means that it's actually expanding the base of eligible borrowers under this program now. Something important to mention here-- Main Street lending program is different from the PPP, and Chairman Powell talked about this yesterday when he was previewing that these changes would come down line. These are not grants.

These are loans. They're four-your loans that would be relatively cheap, although it's possible that a lot of those larger borrowers might find cheaper options just through their existing private borrowers. But it's supposed to be a four-year term with LIBOR plus a 3%. Now the terms of the Main Street Lending facility as unveiled today will have three different options. And for lenders that are actually underwriting these loans there will be different options for how much risk you're actually taking on. 5% of a loan would be all that you need to hold on your balance sheet for most of these loans.

But for some borrowers, they would allow larger loan balances, up to six times of adjusted EBITDA. But in that case, the lender would have to retain 15%. So a lot of interesting nuances with this facility. But, again, the Federal Reserve has yet to launch it. They say that it should be coming soon. But the details that we have today are the most fleshed out that we've seen for this Main Street lending program.

MYLES UDLAND: And, you know, Brian I saw some commentary about how many members of the S&P 500 this brings into play. I mean, they're calling this a facility for small and medium sized businesses. But 15,000 employees and $5 billion in revenue is-- I would consider it large. Apparently it now is medium-sized. And I think there's also some questions about does this bring a lot of these distressed oil names into play? The six times EBITDA probably doesn't, but I suspect there's going to be increasing calls about the unfairness or about what the Fed is finally getting to a point where they might be overstepping, you know, I wouldn't say there are legal bounds, but certainly the moral hazard bounds that, so far, have not really been brought up seriously.

BRIAN CHEUNG: You know, I never thought I'd hear you say moral hazard within the context of the Federal Reserve, Myles. But to that concern, I think that Chairman Powell spoke to it yesterday. He said the demand for this Main Street lending program is likely going to be nothing even close to what we saw for the PPP, where every single borrower is rushing to the door, and the money evaporated in a matter of days.

Now, when it comes to the Main Street lending program, this is largely about messaging like other programs are. And it sounds ridiculous to compare the Main Street lending program to things like the primary market corporate credit facility, where the Federal Reserve is going to directly by investment-grade debt. But before the Federal Reserve even bought a single security-- because keep in mind, that facility for primary corporate credit is not even open yet. You've seen a lot of the pressures in that corporate debt market really come down.

And I think that's what the Federal Reserve is trying to do here with the Main Street lending program. It's saying, we're going to offer four-year loans at LIBOR plus 3%. But a lot of banks are now saying, OK, well, I mean, I already have a existing relationship with my borrower, and I could have something that's equally on those terms of pricing right now without the Federal Reserve even having opened the Main Street lending facility.

So it's aspirational. Its The Federal Reserve saying to all these private lenders, go out there and do that. And I think that's why on the moral hazard point, you're going to see a lot of companies like, yeah, sure-- S&P 500 companies that could probably take advantage of this based on the term sheet, but they won't because they're borrower-- whether that's Morgan Stanley, Goldman Sachs, Citibank-- is already going to offer something that's probably more favorable and better than the terms that are being offered under this program.

- Hey, Brian, and you know history is going to judge-- just a quick comment here. But, you know, the CEOs that I've talked to and other business leaders-- I mean, they're giving the Fed high marks here. And you've got to hand it to them at least for being proactive, right. They're not sitting on their hands. So they're not going to be criticized for leaving it in the locker room. I mean, these guys-- you know, heard the bazooka, and the field artillery, and the whole army, but it's a lot. And so they're not going to lose here by not doing anything.

BRIAN CHEUNG: And it's a lot. And the exact amount is $600 billion that's going to be levered up with some money that was appropriated through the CARERS Act. But to expand on the point that I made earlier, I think what's also worth mentioning here is that, yes, while those large S&P 500 companies might be able to find more favorable terms somewhere else, this is going to increase leverage for riskier companies, right?

Think about SeaWorld, for example. SeaWorld is a company that recently disclosed that it was interested in a Main Street loan through this Fed facility. SeaWorld, as we know, a company that's been struggling with debt even before the COVID-19 crisis. This type of loan is going to offer them what is essentially a leverage loan. It could get a six times adjusted EBITDA loan, where the lender only needs to take on 15%, and the Federal Reserve is going to take on the other 85%, which means if SeaWorld can't pay that loan back, that's OK. Because the Fed will take on the risk anyway.

So this is where you start to raise these questions. OK, what exactly to what degree is the Federal Reserve taking on this credit risk? It's never done this before. And does that present any sort of changes for the independence, if you will, or even credibility of the central bank. I think those are valid questions.

- A Shamu loan, come on. You and Myles--

MYLES UDLAND: Well, we could go all day on this, and we won't. I think I only grabbed the moral hazard because I think you're outlining how it exists in this context, right. In my view, there's no moral hazard when you are trying to get municipalities more money or you're trying to get Congress to spend additional trillions, because that's going back to the people.

The people have empowered the Federal Reserve to act on our behalf, but when you're lending to Blackstone-backed SeaWorld at this kind of financing, then you have questions about what exactly are we accomplishing. But for another day. Brian Cheung, great to talk to you, as always. Thanks for the latest on the Fed.