Lykeion Research - September '23
Bond Issuance’s Impact on Liquidity, US Public REITs, US Dollar Outlook, Reflation Risk in Q4
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Bond Issuance’s Impact on Liquidity
So what: The Fed will be adding duration to Treasuries issued over the next 9 to 12 months, which will effectively remove liquidity from equity markets at a time when they’ll likely be facing recessionary headwinds.
Deficit financing used to be relatively easy:
1) Foreign buyers buy a chunk of treasuries
2) Banks and investors take another chunk
3) Use the Fed as buyer of last resort to take the rest
That’s no longer the case: Geopolitical tensions have slowed (1) meaningfully; (2) is still an option, but the costs are rising; J. Powell’s crusade against inflation has mostly put an end to (3) via QT.
But the US Government still needs to finance its fiscal deficit and given the setup - significantly higher rates and historically large deficits - the Treasury will likely be forced to remove a significant amount of liquidity from the market over the next 9-12 months, which could very well be the long-awaited catalyst that the bears like Michael Burry and Mike Wilson have been looking for.
Let us explain. What’s the impact of Treasury issuance on liquidity?