A liquidity tide for the record books

By Steve Ellis Global CIO, Fixed Income

This week’s Chart Room looks at how the unprecedented flood of dollar liquidity is likely to impact asset markets and monetary policy as we move through 2021.

Among other unprecedented developments, 2020 brought us new high-water marks in the US for both money supply growth and the personal savings rate. This week’s Chart Room looks at the global ripple effect, after US M2 money supply at the end of 2020 rose by a record 24 per cent year-on-year, the biggest increase since records began before the Great Depression. It remains sharply elevated. Meanwhile, the US personal savings rate peaked at 33.7 per cent in April, but has since fallen back to more normal levels, an encouraging sign that US consumers, who account for nearly 70 per cent of the world’s biggest economy, are spending once again.

 

At a global level, the dollar value of world money supply rose 17 per cent last year to USD104 trillion. We think this scale of monetary accommodation (i.e. balance sheet expansion) is likely to carry on. In a world with zombified growth, central banks have to prop up a system which relies on increasingly negative real yields to service debt.  

A rising tide  

This flood of dollar liquidity is seeping into all aspects of asset markets, and the impact is overwhelming in the absence of real productive utilization in the economy. In our view, this will likely benefit risk assets including corporate bonds, equities, and popular carry trade currencies, despite valuations looking stretched in some areas. But this will come at a cost, including a structural dollar downtrend. In addition, I expect inflation will rear its head in 2021.

But the worry is that real yields will begin to rise once we see the lockdowns end. There are already early signs of this in recent weeks. If yields do continue to climb, and inflation ticks upwards, we could see a UST yield curve tantrum (i.e. a steeper curve), which would in turn cause a temporary widening in credit market spreads (and a corresponding temporary selloff in equities, particularly tech).

That said, I don’t think such a selloff would be prolonged. Central banks cannot sit idly by and watch real yields go higher. These days, the system only clears with real yields being driven more and more negative. There’s simply too much debt outstanding. The Fed can’t put the toothpaste back in the tube.

 

 

This document is issued by FIL Responsible Entity (Australia) Limited ABN 33 148 059 009, AFSL No. 409340 (“Fidelity Australia”).  Fidelity Australia is a member of the FIL Limited group of companies commonly known as Fidelity International.

Investments in overseas markets can be affected by currency exchange and this may affect the value of your investment. Investments in small and emerging markets can be more volatile than investments in developed markets.

This document is intended for use by advisers and wholesale investors. Retail investors should not rely on any information in this document without first seeking advice from their financial adviser. This document has been prepared without taking into account your objectives, financial situation or needs. You should consider these matters before acting on the information.  You should also consider the relevant Product Disclosure Statements (“PDS”) for any Fidelity Australia product mentioned in this document before making any decision about whether to acquire the product. The PDS can be obtained by contacting Fidelity Australia on 1800 119 270 or by downloading it from our website at www.fidelity.com.au. This document may include general commentary on market activity, sector trends or other broad-based economic or political conditions that should not be taken as investment advice. Information stated herein about specific securities is subject to change. Any reference to specific securities should not be taken as a recommendation to buy, sell or hold these securities. While the information contained in this document has been prepared with reasonable care, no responsibility or liability is accepted for any errors or omissions or misstatements however caused. This document is intended as general information only. The document may not be reproduced or transmitted without prior written permission of Fidelity Australia. The issuer of Fidelity’s managed investment schemes is FIL Responsible Entity (Australia) Limited ABN 33 148 059 009. Reference to ($) are in Australian dollars unless stated otherwise. 

© 2021 FIL Responsible Entity (Australia) Limited. Fidelity, Fidelity International and the Fidelity International logo and F symbol are trademarks of FIL Limited.

Share:
 
 

Want more insights like this?

Get our free, monthly e-newsletter bringing you valuable insights, opinion and education.

Subscribe