C8 Bulletin: Gauging the Impact of US Debt Limit Dynamics – Part II

In February, one of our index providers, IVI Capital, outlined how the Debt Ceiling impasse would lead to an expansion of US liquidity, and more benign financial markets, until the Congressional stand-off was resolved. With the Debt Ceiling increase finally agreed, we asked IVI for an update.
BY JON WEBB

C8 Bulletin: Gauging the Impact of US Debt Limit Dynamics – Part II

In February, one of our index providers, IVI Capital, outlined how the Debt Ceiling impasse would lead to an expansion of US liquidity, and more benign financial markets, until the Congressional stand-off was resolved. With the Debt Ceiling increase finally agreed, we asked IVI for an update (below).

In our update from 22 February 2023, IVI highlighted that as the US reached the debt ceiling, the US Treasury’s own reserves, held in the Treasury General Account (TGA) at the Fed, would need to be drawn down to fund government spending. The TGA run down from USD 490bio on 22 February to just USD 23bio on 5 June effectively injected additional liquidity into markets. This countered the effect of Quantitative Tightening (QT) as the Fed shrinks its balance sheet, albeit at a far slower pace than it was expanded. In effect, this acted as a stimulus on markets still suffering from an excess of liquidity generated by unprecedented expansion of US fiscal spending and the Fed’s balance sheet in response to Covid.

Now the debt ceiling impasse has been resolved, the TGA will need to be rebuilt.  Treasury has indicated this will be done by issuing bills, and we estimate the rebuild will be approximately USD500 billion over the next 3 months (most occurring in June/July). In addition, we are projecting the heavy seasonal deficit over that time frame to be USD600 billion, which also needs to be financed. This implies roughly USD1.1 trillion in new net marketable borrowing by Treasury.

The chart below shows the relationship between Nasdaq 100 (in blue) and our liquidity gauge using the Fed’s Balance Sheet adjusted for both RRP (Fed’s reverse repo facility) and TGA (in orange). Note in December 2021, the Fed’s adjusted balance sheet started to contract from a peak of USD 7.1trillion and Nasdaq peaked too and began to fall.  But, since October of 2022, the adjusted Treasury balance sheet has RE-EXPANDED as the US government’s cash balances (TGA) have been run down. Now the agreement has been reached, this liquidity tightening risks a more rapid slowdown in the US economy in the second half of 2023, very much at odds with the current market pricing of immaculate disinflation and much lower volatility.

After a strong performance in 2022, the IVI Global Macro Index is broadly flat on the year. However, given some well-publicised reversals in macro trading in 2023, the cautious approach they recommended in February looks well founded.

Other posts

NDR Dynamic Allocation Strategy November 2024 Update

BY BRIAN SANBORN
Dynamic Allocation Strategy, indicators, weightings update Read more →

Thoughts From The Divide: Winners and Losers

BY JON WEBB
In a stroke of luck (from the perspective of clarity) it turns out concerns about the possibility of a long, protracted election fight was wide of the mark. The Presidential election was called quickly (though at the time of writing, control of the House is still up in the air.) But as Trump trots to the “winner’s circle”, markets are still busy correcting commentators regarding just who the winners and losers of Trump v2.0 will be. Read more →

Thoughts From The Divide: A Giant Global Margin Call

BY JON WEBB
It’s possible to read too much into things. Consider it a flaw in our nature. But when we are told the “Worst of market sell-off might be over but hold on tight”, we can’t help but wonder about the hedged language. After all, if Goldman sees recent price action as prompted by a “giant global margin call”, surely the sell-off is an opportunity? Apparently not, as the GS note in question suggested that the flows they have seen were not consistent with “a ton of selling”. Is this diagnostically useful, and if so, in what way? If forced to offer an opinion (and we are), we would agree with GS that volumes have certainly not been indicative of capitulation. In fact, recent volatility might be better thought of as evidence of preternaturally low levels of liquidity. That in itself begs the question of why liquidity is so poor. August doldrums, or evidence of a Potemkin market? Read more →
Back to all posts →