BiQ: A Few Thoughts on Current Market Conditions and Market Liquidity

I posted this earlier in BiQ Chat, but thought it merited an article for the broader BiQ audience. I believe the chart below helps elucidate underlying market liquidity, which is what I believe to be driving current market volatility.

From this chart, we can see that the RRP (reverse repo facility) and WRESBAL (bank deposits at the Fed) are at very low levels. This means bank liquidity levels are tighter than usual. This is probably why we're seeing an uptick in the SOFR. These metrics may be concerning to investors as it means the system has less ability to absorb a shock.

However, we're also seeing the WTREGEN (Fed general account) sitting at near 5-year highs and the US M2 money supply growing at a steady clip.

What I take away from this is that the market is experiencing tight, though not extreme, liquidity conditions, but the Fed is sitting on a ton of cash. The other thing to consider is that if the government reopens, it will release about $50B of pent-up liquidity into the system.

Basically, liquidity has been sucked out of the system through the Fed's QT program and the government shutdown. That liquidity will eventually be released back into the system, especially with the government reopening and the Fed ending QT at the end of November. I could be missing something, and I'm certainly not an expert, so take this for what it's worth, but in my view, liquidity is the single most important macro factor that drives share prices in the short term. Right now, liquidity is tight, which helps explain why the market environment has been challenging. However, I think the Fed could soon release a significant amount of cash into the system.

Again, this is just my perspective. Try not to panic, but stay cautious.

Please refer to the BiQAP Live spreadsheet on the Active Portfolio page or the iQCS for additional information.

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