Fed warns of ‘low’ market liquidity in $24 trillion Treasury market, in latest financial stability report

The Federal Reserve on Friday confirmed what many investors have been saying for some time: the $24 trillion Treasury market has experienced low levels of market liquidity in recent months.

The central bank has been rapidly raising interest rates since March as part of a battle to bring inflation down from a 40-year high. It is hoped that such steps could cool consumer demand enough to correct prices, without pushing the economy into a recession or triggering a financial crisis. .

But since May, liquidity cracks in Treasuries, the largest, deepest part of the U.S. bond market, have begun to appear as 2-Year Treasuries.

and 10-year Treasury

this rate has risen above 4%, the highest level seen around 2008.

“Liquidity indicators, such as market depth, suggest that Treasury market liquidity remains below historic levels,” the Fed said Friday, in its latest financial stability report. . “Low liquidity will amplify volatility in asset prices and can ultimately dampen market activity.”

“Liquidity woes” could also increase funding risks for financial intermediaries that rely on market-based securities as collateral, the report said, pointing to potential ripple effects. hidden may increase financial stability risks.

More importantly, the report also says market participants have so far “continued to meet their margin calls to date.”

Below is a chart from the report’s liquidity risk ratings against other potential destabilizing factors that could weigh on the financial system, including persistently high inflation, Russia’s war in Ukraine, higher energy prices and the China-Taiwan conflict.

Market liquidity strains have been looming over US financial markets since May, but they are not the biggest concern.

Federal Reserve’s November 2022 financial stability report

The U.S. Treasury Department in October said it was talking to prime dealers and considering buying back some of its old debt to help stem market turmoil in the Treasury market.

See: ‘This is not QE or QT. This is not one of them. ‘ Why the US Treasury is probing debt buybacks

The Fed on Wednesday raised interest rates by 0.75 percentage points, to a range 3.75% to 4%. That’s the highest level in 15 years,


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