The latest IMF fiscal monitor underscores three key fiscal trends. First, deficits in the developed world keep narrowing, thanks to past fiscal tightening and present economic growth Second, public debt ratios remain high and are unlikely to fall back below 100% of GDP this decade. Third, emerging markets fiscal numbers are deteriorating.
The importance of collateralized transactions for the global financial system has greatly increased since the financial crisis. Moreover, the influence of central banks on supply and pledgeability of collateral has become more pervasive and explicit. Investment managers must calculate with the impact of central bank policy and operating frameworks on financial conditions via this “collateral channel”.
A Chicago Fed paper argues that economic uncertainty at the zero lower bound (ZLB) should be a cause of looser monetary policy. This is basic risk management, as confirmed by Fed Chair Janet Yellen. Near the ZLB unduly tight monetary policy is more difficult to correct than unduly easy policy. Moreover, the mere risk of being constrained by the ZLB tomorrow affects expectations already today and can reinforce the severity of the ZLB constraint.
China’s economy has long relied on compressed interest rates in conjunction with strict capital controls and a tightly managed exchange rate. A new ADBI paper suggests, however, that modest liberalization and gradual internationalization of the renminbi since 2005 have lessened state control over financial parameters. Inconsistencies and risks of market dislocations have become more evident.
Herding arises from deliberate decisions of informed traders to follow others. It can create inefficiency, dislocations and, hence, profit opportunities. A paper by German academics suggests that herding is the more intense the better informed the market is and the greater the information risk. The paper also finds that both sell-herding and buy-herding increased during the last financial crisis.
A new McKinsey report estimates that total debt of households, corporates, and governments has expanded 40% since 2007, reaching a total of 286% of GDP last year. Government debt ratios will be hard to contain through fiscal tightening and economic growth alone. China’s non-financial debt has quadrupled, with credit quality critically dependent on the real estate sector.
The ECB now runs one of the most complex monetary policy regimes. Beyond regular liquidity supply, its operating framework features long-term full-allotment refinancing operations, generous collateral acceptance, and a commitment to conditional open-ended interventions in sovereign markets. Subsequently, it has adopted or expanded forward guidance, targeted lending and large-scale outright asset purchases.
A new BIS paper illustrates how debt and collateralization create liquidity. In particular, money markets rely on excessive and obfuscated debt collateral to contain information costs. Opacity and “symmetric ignorance” support their smooth functioning. The flipside is that large negative shocks to collateral values inevitably catch markets “uninformed”, disrupting liquidity services.
The ECB 2015/16 asset purchase program will include sovereign and quasi sovereign debt, ABS, and covered bonds. The envisaged annualized pace of balance sheet expansion should be around 6% of GDP. Pace and size are conditional on inflation expectations and open-ended, subject to restrictions on market size and issuer quality. The absence of full loss sharing could limit benefits for sovereign credit risk.
Market liquidity measures the cost efficiency of trading. Liquidity risk refers to the probability that these costs surge when trading is required. Liquidity and liquidity risk are major factors in the long-term performance of trading strategies. The apparent inverse relation between liquidity and expected returns also offers obvious profit opportunities. There are various conceptual solutions for measuring market liquidity timely.
Macrosynergy is a London based macroeconomic research and technology company whose founders have developed and employed macro quantamental investment strategies in liquid, tradable asset classes, across many markets and for a variety of different factors to generate competitive, uncorrelated investment returns for institutional investors for two decades. Our quantitative-fundamental (quantamental) computing system tracks a broad range of real-time macroeconomic trends in developed and emerging countries, transforming them into macro systematic quantamental investment strategies. In June 2020 Macrosynergy and J.P. Morgan started a collaboration to scale the quantamental system and to popularize tradable economics across financial markets.
