On September 24, the U.S. capital market showed a correction. The three major U.S. stock indices fell across the board. The Dow Jones Industrial Average closed down 142.22 points, representing a 0.53% loss. The Nasdaq Composite Index also fell 1.46% and the S&P 500 index fell 0.84%. In the commodity market, the price of light crude oil for November delivery on the New York Mercantile Exchange fell 2.30% to close at US$ 57.29 per barrel. The price of the London Brent crude oil for November deliveries also fell 2.58% to close at US$ 63.10 per barrel. Also, U.S. Treasury yields also fell as prices rose. The benchmark 10-year U.S. Treasury yields fell to around 1.659%, the 30-year U.S. Treasury yields fell to around 2.111%, while the 2-year Treasury yields fell to 1.626%.
The market believes that the reason for the decline in the capital market may be a series of weak economic data, including the uncertainties brought about by the move of the U.S. House of Representatives to launch the impeachment procedures against President Trump. However, researchers at ANBOUND believe that, in addition to these reasons, the continued liquidity of the U.S. dollar under the Federal Reserve's continued interest rate cuts is also a major factor in the overall correction of the U.S. capital market, and this liquidity crisis may become the tipping point that leads to the shift of the U.S. capital market.
The dollar shortage appears to be a short-term liquidity problem, but it also reflects deep structural risks. It is these risks that led the Fed to take the first public market operation for the past 10 years. Last week, in response to the shock of the overnight lending market, the New York Federal Reserve injected US$ 350 billion worth of liquidity into the market. The Fed said it will continue to inject the dollar until October. The New York Fed chief John C. Williams believes that the problem seems to have been resolved, but he also said at the end of the quarter on September 30 that there may be further turmoil, and the Fed will continue to monitor the necessity to increase reserves in the financial system. Therefore, even though the Fed continues to inject liquidity into the market, the liquidity stress of the dollar will not be eliminated in the short term, and some long-term structural factors may be the main cause of liquidity shortage.
Currency and bond market interest rates also reflect structural problems in the market. On the one hand, funds are still flowing to long-term low-risk bonds, resulting in long-term low interest rates. On the other hand, short-term interest rates are maintained at high levels. What is more exaggerated is that, under the liquidity tightening, the bank's overnight repo market interest rate rose to 10%, and has pushed the Fed's own funds rate higher than the target range. At present, the long-term yield of U.S. debt continues to be lower than the federal funds rate. Some market participants commented that the Fed has completely lost its control over interest rates. The most intuitive evidence of this is that the federal funds rate is currently higher than all the points on the U.S. Treasury yield curve. The current fund rate target is 2%-2.25%. Therefore, the differentiation and inversion of the interest rate market reflects that fact the Fed's monetary policy is losing its effect.
This situation indicates that the liquidity brought about by the Fed's easing policy has not been effectively allocated in the financial system. More companies and financial institutions want to borrow money to cope with the "winter" of the market that may come. Hedge funds are accumulating cash to take advantage of the next stock market crash, while well-performing listed companies are using the funds they have invested in repurchasing stocks to maintain valuations rather than expand their business. As a result, institutions with good performance hoarded funds into their own "small ponds", which made it difficult to reduce the water level of the "big pond", metaphorically speaking. In addition, enterprises with excessive expansion or high risk are facing difficulties in diverting the "water" from the "big pond" and form a "hungry" liquidity. This not only reflects the problems of the financial transmission mechanism in the U.S. market, but it is also a precursor to the crisis. According to a report in the Financial Times, the clouds of economic storms are gathering rapidly, and some top fund managers are becoming more nervous about the impending arrival of the recession than ever before. This means that the capital market is already in a "critical" state, and any turmoil will definitely bring panic.
Signs in the U.S. stock market have also indicated that the bull market may well be over. After the Fed cut interest rates by 25 basis points, the total U.S. stock market net outflow was US$ 19.8 billion in August, the largest since March 2018. According to data from the UK group Smart Insider, as of mid-September this year, U.S. corporate executives sold a total of US$ 19 billion in company stocks. Their sales this year are expected to reach about US$ 26 billion, a record high since 2000. They are worried that the long-term bull market for U.S. stocks is about to enter the final stage. Robert Shiller, the Nobel laureate in economics, even believes that criticisms on the Fed's decision to cut interest rates have caused unexpected damages to investor psychology, exacerbating pessimistic expectations in the market and leading to liquidity imbalances and stagnation. In addition, the Bank for International Settlements (BIS) has also warned that a financial crisis is imminent.
In the current situation of the U.S. economy, there are a number of economic indicators that reflect the pessimistic prospects of the underlying fundamentals. Economic data released by Europe and the United States earlier showed that the manufacturing recession is spreading to the service industry and employment sector, while the U.S. consumer confidence has also recorded its biggest decline in nine months. In August this year, ANBOUND's researchers have warned that the global economic slowdown has taken shape, and various "black swans" will also be brought together in October, leading to an unprecedented risk level full of uncertainties. Although the "Trumpization" of the Fed will increase monetary easing, which will further cut interest rates and even restart the QE cycle, yet the situation in Europe has shown that the room for maneuver in monetary policy is narrowing further. If the economy is in a recession, it will be difficult for the Fed to resolve it even with monetary easing.
Final analysis conclusion:
The crisis of the dollar's liquidity reflects the market imbalance and policy adjustment failure under the Fed's easing policy. This risk means that reaching the critical point of the capital market is imminent. In an unprecedented state of excess capital around the world, an outbreak of risk can have very serious consequences.
