Looking at the violent moves in the market in the past two weeks, one would conclude that liquidity has gone on vacation, along with most traders. And one would be right: as the following chart from Goldman’s Rocky Fishman shows, the top-of-book depth for Emini futures was at its worst level since January last week.
While it will come as no surprise to anyone who has followed our discussions on liquidity, or the lack thereof during risk off episodes, the Goldman strategist points out that the combination of “weakened liquidity and ongoing material systematic equity flows likely contributed to the severity of the moves.”
What may come as a surprise is that as proxied by top-of-book depth, Goldman also claims that SPX futures liquidity could have been worse than it was over the last two weeks. Specifically, as Fishman notes “while liquidity is never strong when markets become volatile, in the midst of the 3.5% SPX futures sell-off on Monday 5-Aug, top-of-book depth for SPX futures was actually stronger than it had been the previous trading day. Last Wednesday (7-Aug) represented the low-point of E-mini futures liquidity amidst a sharp intraday sell-off that later reversed.” Indeed, top-of-book depth has been materially better than it was at the depths of December’s volatility, which is to be expected given a more mild sell-off.
Not everyone agrees however, because according to an analysis from JPMorgan’s John Normand, not only has liquidity for major asset classes, including equities, treasuries and currencies, fallen relative to the average since 2010, but also relative to the annual August average, when liquidity is already dismal with most trading desks very understaffed.
“Even by August standards, when market depth tends to decline and volatility to rise, this month is delivering numerous unusual events and milestones”, Normand wrote.
Others agreed, including Deutsche Bank strategist Binkhi Chadha, who wrote last Friday that S&P futures “liquidity fell sharply again starting last Wednesday as the market sold off post the FOMC meeting and rose only modestly.”
Whether liquidity is catastrophic, or just fractionally better than disastrous, at the end of the day doesn’t really matter if the market is a one way liquidation-fest, as it is today amid a surge in recession worries. The only question is whether we drop to whatever the Powell Put level is now fast or less fast. And once we do, will Powell cut 25bps, 50bps, or will he listen to BofA and JPM and announce an “emergency” restart of QE, as the Fed goes all in to avoid a market crash.