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Concerns Over the Liquidity of the Bond Market.

Regulatory officials are now becoming concerned of the illiquidity of the bond market.  There is now little debate whether or not regulations implemented after the 2008 financial crisis is affecting trading as a new consensus is being formed that it is just a matter of time some political, economic or market event will trigger a crisis.

As written several times, because of regulatory changes bond inventories held for trading at money center banks are down about 82% from year ago levels according to Fed data.  Moreover, SIFMA states even though the size of the US bond market has swelled 23% since the end of 2007, trading has declined by 28%.

There is other data that suggests trading has slowed even more dramatically.

For those who have had the misfortunate position of being long energy bonds during the last nine months, the above data only verifies what one has experienced; no buyers/liquidity when selling commences.

No one really knows when there will be a change in monetary policy, but a change will occur, the fear being a change that occurs at a faster pace than anyone expects.  I reiterate who nine month ago thought the dollar would rally 25% and crude fall by 50%.

Several times I have commented about the quiet 12% 2 month decline in utilities.  A simplistic valuation model via Bloomberg suggests prices could fall another 25% before prices reach the previous apex valuations.  Wow!  How would the retail investor handle such a decline, a decline that may unfortunately pale if compared to a possible liquidity driven event in the bond market.

Regarding Friday’s market activity, the Dow staged a handsome advance because of GE who announced that it will exit the bulk of its lending business.  The dollar surged by the greatest amount since 2011 as the Fed moves to raising borrowing costs.

Oil was up again for the week, the longest streak of weekly increases since February 2014 as Iran disputed the framework for a nuclear deal.

What will happen this week?  Earning season accelerates as several high profile companies post results.  How has the rising value curbed profits?

The economic calendar is also busy there are numerous inflation, housing and manufacturing statistics released as well as a confidence survey.

Last night the foreign markets were mixed.  London was down 0.45%, Paris flat and Frankfurt down 0.02%.  Japan was down 0.01% and Hang Sang up 2.73%.

The Dow should open quietly lower.  Will first quarter profits support the averages?  Thirty six S & P 500 companies post results this week, all are large multinationals. The 10-year is off 7/32 to yield 1.97%.

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Ken Engelke

Chief Economic Strategist Managing Director

The views expressed herein are those of Kent Engelke and do not necessarily reflect those of Capitol Securities Management. Any opinions expressed are statements of judgment on this date and are subject to certain risks and uncertainties which could cause actual results to differ materially from those currently anticipated or projected. Any future dividends, interest, yields and event dates listed may be subject to change. An investor cannot invest in an index, and its returns are not indicative of the performance of any specific investment. Past performance is not indicative of future results. This material is being provided for informational purposes only. Any information should not be deemed a recommendation to buy, hold or sell any security. Certain information has been obtained from third-party sources we consider reliable, but we do not guarantee that such information is accurate or complete. This report is not a complete description of the securities, markets, or developments referred to in this material and does not include all available data necessary for making an investment decision. Prior to making an investment decision, please consult with your financial advisor about your individual situation. Investing involves risk and you may incur a profit or loss regardless of strategy selected. There is no guarantee that the statements, opinions or forecasts provided herein will prove to be correct. If you would like to unsubscribe from this e-mail distribution, please reply to this e-mail and indicate that you wish to unsubscribe in your response.