• 2023 stock markets with strong performance
• Experts see QE-like rally triggered by increasing liquidity
• Investors shift cash
The US indices Dow Jones Industrial and NASDAQ Composite reached new all-time highs shortly before the turn of the year and also had a strong year overall in 2023. The market is saying that investors are betting on stocks again because they hope that the US Federal Reserve and other central banks will cut key interest rates again next year after inflation has fallen noticeably. There is also the hope that the US economy can avoid a recession, which also lifts the mood. But some Wall Street strategists believe that’s only part of the story. They believe that – despite the tightening policy of central banks worldwide – liquidity in the financial system has recently increased, triggering a QE-like rally.
Liquidity in the market is increasing
Matt King, equity strategist and founder of Satori Insights, looked at reserves in the banking system and believes changes in this area are responsible for the recent bull market, according to MarketWatch. “It is reserve changes that correlate best with markets. They correlate with changes in stocks and changes in credit spreads,” said the former Citigroup strategist, according to the news portal. In general, the reserves that commercial banks hold at the Fed are considered a “simple measure of the amount of cash sloshing around in the financial system,” according to the Financial Times.
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Since January 2023, reserves in the banking system have increased by $500 billion, writes “MarketWatch,” citing King. This was caused by various factors, including the continued draining of the Fed’s reverse repo facility. While the US Federal Reserve has reduced its balance sheet total in front of the public, at the same time beneath the surface it has increasingly supported the markets through the permitted expansion of bank reserves, argues the market expert. This has increased the amount of capital available for use in markets and the economy, which in turn has historically led to rising stock prices, King said. Investors generally only want to keep a certain amount of cash in their portfolio. As more and more cash enters the financial system, this proportion becomes too large, which is why it is invested in securities. However, since there is no infinite universe of investable securities, the prices of investable stocks rise due to higher demand until investors again feel that the amount of cash in their portfolio is appropriate, explains the “Financial Times”.
As Matt King further explained according to “MarketWatch”, the described increase in bank reserves began at the end of 2022, when the Bank of Japan, the People’s Bank of China and the European Central Bank provided liquidity support for the markets. However, the development only really gained momentum in the spring of 2023, when the Fed began to support the banking sector in view of the bankruptcies and turbulence at several regional banks. According to King’s research, the world’s largest central banks – after declaring war on inflation in 2022 – would have injected a total of about $1 trillion in liquidity into the system rather than withdrawing that amount. “As reserves change, the balance between the money available to retail investors and the amount of securities they can invest in changes,” the Satori Insights founder said, according to MarketWatch. “If you give investors less money and more securities to invest in, then we see prices fall. Reserves fell in 2022 when everything sold off. But this year that has stopped.”
Share prices are likely to continue to benefit from high liquidity
The “Financial Times” also sees signs that liquidity on the market is increasing. The news site writes that previously unused cash has been being reallocated for some time and is flowing into the financial market. This can also be seen from the fact that since November 2023, values such as Bitcoin and Big Tech stocks, which could have benefited most from high liquidity in the bull market of 2021, have risen sharply. A study by Deutsche Bank also showed that in the USA, inflows into stock, corporate bond and money market funds have increased across the board for several weeks, according to the Financial Times. This is all in line with normal behavior when new money comes into the market and also explains why markets are ignoring some early signs of a slowdown.
The experts at the US investment bank Goldman Sachs see it similarly. “In the first ten days of December, the recent trend of expanding US liquidity continued, driven by drawdowns from the RRP facility and the Treasury General Account,” said the experts the US bank according to “MarketWatch”. They also pointed out that bank reserves increased by a net $50 billion in the first week of December alone. In their opinion, this development should support the performance of risk assets such as stocks until January 2024. The upward movement on the stock market could continue a bit in the new year.
Editorial team finanzen.net
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