A wild week for markets closed on a decidedly dour note, as US equities fell sharply into the weekend.
A day on from one of the most remarkable intraday reversals in history, stocks slid more than 2% on Wall Street. The Nasdaq bled 3%. Friday’s selloff pushed the S&P lower for a fourth week in five and a seventh in nine. 94% of index constituents fell, after the same percentage rose during the prior day’s fireworks.
In a very inauspicious, if predictable, development, long-end UK yields rose more than 20bps despite Liz Truss’s fiscal U-turn and a “bounced Exchequer,” to borrow a quip from BMO’s rates team. It’s anyone’s guess how UK markets will trade when the Bank of England’s backstop expires next week. The market is broken (figure below).
Note that the tumult seen since late last month makes COVID look tame (shaded grey circles), at least on some simple metrics and comparisons.
“As a coal mine canary the gilt/linker market is troubling, particularly in light of Janet Yellen’s recent speech echoing concerns regarding liquidity in US Treasurys,” BMO’s Ian Lyngen and Ben Jeffery wrote. “Investors have long lamented the strained liquidity that’s come to characterize this year’s price action.”
That winks at the overriding concern for market participants — namely, the prospect of more breakage and more “accidents” as the Fed continues along the path to a terminal rate that could be as high as 5% according to markets, or higher depending on who you ask.
With that in mind, both Larry Summers and Jamie Dimon on Friday warned on the likelihood of additional market events. “I doubt we’ve seen the last mine go off. Some of them might be in the private sector,” Summers told Bloomberg’s David Westin. “I think more of them may be international.”
Summers said one of his biggest takeaways from the IMF meetings in Washington this week was the sheer number of countries “reporting difficulty in getting market access.” He chided finance ministers and central bankers for talking up big ideas about green transitions, but doing very little to address the fact that in the here and now, “many” countries “can’t even issue a bond.”
Meanwhile, on JPMorgan’s Q3 conference call, Dimon talked to analysts about “surprises.” “So, the LDI thing is a bump in the road, and I think the Bank of England is also trying to get through this without changing monetary policy and QT,” he remarked, adding that he was “surprised to see how much leverage there was in some of those pension plans.”
Dimon continued. “My experience in life has been you have things like what we’re going through today — there are going to be other surprises. Someone is going to be offside.” Although JPMorgan doesn’t currently see anything that “looks systemic,” Dimon cautioned that “there is leverage.”
He also touched on the liquidity issue. “You already see very low liquidity, so, something like the LDI thing could cause more issues down the road if it happens constantly,” he said. On the bright side, “the banking system itself is extraordinarily strong,” according to the world’s foremost banker.
H-Man, in 2008 we only discovered the extent of the leverage after the bomb detonated. Toss in the fact Yellen is concerned about liquidity in the treasury market due to a lack of buyers while running off millions of treasuries. Short term treasuries are over 4%, if that market moves to 6% or 7%, who is buying equities? So yeah I agree with Dimon, there are probably a lot of surprises that will show up.
I have Hemingway on my mind tonight… First gradually, then suddenly.
The music is stopping. Some are caught without chairs.
High leverage in a pension plan. Wonderful.
When the Fed, and the whole world, were printing money, I’m sure returns in those pension plans were great. Although no one was complaining at the time, there is a cost to all that leverage, that society must pay. One man’s windfall comes at the expense of everyone else. To some extent, it is a zero-sum game.
Now all the excesses are reversed, and those who were over-leveraged become exposed.
At some point the Fed pivot. Something will break that they care about.
Janet Yellen now talking about the need for more liquidity. Wonderful. They are barely out of the gate, and they already want to pivot.
I think something is broken with the economic system, when the Fed is so pivotal, so to speak. Investment returns are entirely a function of whether or not you are properly in line with the Fed, at a particular moment in time.
As they are tightening, various short trades will work. Once they start to loosen again, you must lever long.
Get the Fed right, and you are golden. Get the Fed wrong, and you are screwed.
Liquidity in markets was the major flaw/downside in the Volcker rule. If the regulator. The Fed/Basel rules should reduce reserves set aside for us treasury/agency mortgages to encourage banks to buy and make markets in them.
“Liz Truss has underlined her apparent intention to rip up recent economic policies by removing Tom Scholar as the most senior civil servant in the Treasury, despite warnings that his experience could prove vital this winter.”
“Doesn’t matter who is in charge, Brexit has made it impossible for any government to stop U.K. economic decline.”
SLB
Brexit has always seemed like one of the most mindless stupid decisions of all time. How did they think cutting all simple ties with the rest of developed Europe would benefit them? No ties, no help. The pound is in the tank, trade is more difficult. Greece and Spain, here we come.