While it is easy, even sentimental, to pin what may (or may not) be a bubble, or as some call it - market - top on the recent liquidity and euphoria-soaking IPO of China's megaretailer Alibaba and its sliding chart since it broke for trading, a la what the Blackstone IPO did to the previous bubble, it is also wrong. The reality is that the attention of what few carbon-based investors and traders are left, is glued to very different chart: the one below from Deutsche Bank, showing the between the S&P and the total assets owned by the Fed.
Read on for the reason why:
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Less central bank liquidity
In Figure 8 we show what has probably been one of our most used charts of the last year or so. It looks at the relationship between the size of the Fed balance sheet and the S&P 500 (as a proxy for risk generally). As you can see, since the Fed balance sheet was used as an aggressive policy tool post-GFC, the graph suggests that the S&P 500 is well correlated with its size with the former leading the latter by 3 months. For the past 5 years or so the times where we have seen strong performance from risk assets have broadly coincided with periods where the Fed was aggressively expanding its balance sheet. In the periods where the balance sheet wasn’t increasing we generally saw a more challenging environment. So as we have highlighted recently the wobbles seen during the summer months may in part have been due to the imminent end to asset purchases next month (given the 3-month lag in the relationship) and arguably demonstrate the potential challenges facing investors in a world where liquidity is less freely available.
However...
Here we’ve focused only on the actions of the Fed. Since the GFC it’s not just the Fed that has increased the size of its balance sheet. In Figure 9 we track the YoY growth rate (in dollar terms) of the four main central banks globally (Fed, ECB, BoJ, PBoC). We can see that pre-crisis overall balance sheet growth was fairly strong due to the expansion in China. We then get the post-GFC boost from the Fed and to a lesser extent the ECB. We can see that central bank balance sheet expansion seems to have come in waves since then following the various different forms of policy accommodation and QE. Having reached a peak of around 13% in Q1 this year with the growth rate declining since. With the Fed balance sheet likely to be static as of next month much might depend on the BoJ and the ECB from a global liquidity standpoint. China’s actions are less predictable and it could be they react to slower growth by expanding the money base.
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However, as of today, they appear far more predictable. Recall: "Get To Work Mr. Chinese Chairman": China Set To Fire Its Central Bank Head, Unleash The Liquidity Floodgates [8]
So, Deutsche Bank's conclusion: "Overall we would argue that markets might experience a few more bumps in the road as the global liquidity picture is not as supportive as it has been."
Also known as Euphemism 101.
