Tags: Liquidity | Investor | Disaster | banks

Never Forget, 'Liquidity Run' Is Quick, Easy Recipe for Disaster

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Wednesday, 01 July 2015 01:40 PM Current | Bio | Archive

The IMF data of the Official Foreign Exchange Reserves (COFER) for Q1 of 2015 show U.S. dollar share of global FX reserves has risen to 64.1 percent in Q1 from 63 percent in Q4 of 2014 while the euro's share has fallen to 20.7 percent from 22.1 percent.

This is certainly important enough for long-term investors to take notice.

In the U.S., the Conference Board's Consumer Confidence Index showed for June an increase to 101.4 from 94.6 during in May (revised up from 95.4) and which was the second firmest reading during the current economic expansion.

During the last 10 years, there has been a 45 percent correlation between the level of confidence and the three-month change in real personal consumption expenditures.

Speaking in London, Fed Vice Chair Stanley Fischer gave some interesting comments:

“… because monetary policy affects the economy with a lag, we should not wait until we have reached our objectives to begin adjusting policy … we expect that the target federal funds rate will remain for some time below levels viewed as normal in the longer run. But that is only a forecast, and monetary policy will, in practice, be determined by the data--primarily data on inflation and unemployment … one feature of the era after the first increase of the federal funds rate will, in all likelihood, be higher U.S. and global interest rates compared with their extraordinarily low levels of recent years. The increase in global interest rates could cause investors to adjust their portfolios, triggering capital outflows from emerging market and developing economies…”


In simple words and with what we know today, we could expect a first fed funds rate hike in the coming months. Once that occurs, this move will represent a serious complicated challenge to emerging economies.

Bill Gross, who made not so long ago that “short” of the century call on German bunds, just warned we are at risk liquidity in the markets will be severely tested when we’ll have a “run on the shadow banks,” of which mutual funds, hedge funds, and ETFs, represent a non-negligible part.

Investors should keep in mind these entities are not required to maintain reserves or even emergency levels of cash.

So, you don’t have to be a rocket scientist that any serious surge of requests for liquidity on part of investors, whether they be individuals in 401(k)s, institutional pension funds or insurance companies, such a situation would oblige “markets” selling massively to themselves while the Federal Reserve should remain severely limited in its ability to provide assistance, which is a perfect scenario for disaster.

Catalysts are:
  • A central bank mistake leading to lower bond prices and a stronger dollar;
  • The Greek mess and its still not taken into account contagion effects;
  • China stumbling more than expected;
  • Emerging economies hitting the dollar wall;
  • Geopolitical risks;
  • A "Black Swan" event in our over-leveraged over-indebted world.

In simple words, every investor could do well taking today’s risks very seriously and define his/her risk tolerance under a “bad” case scenario, which is easier said than done.

I personally have no doubt, there are serious bumps in the road ahead waiting.

On Greece we now all know it “missed” its due payment to the IMF and therefore it “went into arrears” as the IMF calls it, and hereby joins all these developing countries that have experienced similar situations.

In the meantime, we’ll have to wait for the result of Sunday’s Greek referendum, in case it takes place. That said, investors should be aware that a Greek NO-vote wouldn’t mean “at all” an irrevocable Grexit.

Never forget, a good solution for Greece, free from lies from Greece’s side, is still not in the cards.

Probably, many investors today are not aware how Greece cooked its books in order to comply “on paper” with the debt requisites imposed by the Eurozone for becoming member, made therefore disappear 2.8 billion euros of debt from its books with swaps.

As Henry Kissinger said: “It is not often that nations learn from the past, even rarer that they draw the correct conclusions from it.”

Add to that the eurozone isn’t known for learning from its past, and we all understand what the chances are for a trustworthy and durable solution for Greece …

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HansParisis
You don’t have to be a rocket scientist that any serious surge of requests for liquidity is a perfect scenario for disaster.
Liquidity, Investor, Disaster, banks
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2015-40-01
Wednesday, 01 July 2015 01:40 PM
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