A drunk market?

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Didier Le Menestrel, chairman at La Financière de l’Echiquier, highlights balances in government and corporate bonds markets.

JP Morgan’s CEO Jamie Dimon is delighted: the company that he heads has reported record earnings of $22bn for 2014. This figure is all the more spectacular in that the bank was obliged to pay various fines totalling $25bn over 2013 and 2014.

Goldman Sachs is on a similar path and a few fines did not prevent the bank from reporting healthy earnings for the past year and a record Q1 2015 at $2.7bn. While the 2008 crisis has not been forgotten, the US financial sector is now back on track.

Within a few years and with the massive help of the Federal Reserve, the US banking industry has moved from a situation of “back to business” to “business as usual”, and is now doing “better than usual.”

“Better than usual” is unusual and while rejoicing at the company’s results, Jamie Dimon underscored the risk of excessive volatility on the markets. Could this be seen as exaggerated paranoia just as the stockmarkets have moved onto a steady uptrend? Not so sure.

Indeed, two recent market accidents were reminders that volatility peaks can be very brutal. Firstly, during trading on 15 January, the Swiss franc fluctuated by 35% in less than half an hour after the Swiss National Bank abandoned its peg.

Secondly, on 15 October 2014, the yield on 10-year US bonds plummeted from 2.21% to 1.86% in just a few minutes, before returning to normal just two hours later.

In the bond market especially, a strange balance is being created. The ever-increasing liquidity provided by central banks is going hand in hand with a weakening in liquidity on the markets welcoming it.

The word “liquidity” actually designates two realities: the quantity of money in the first case and the ability of players to provide market prices in the second. Market liquidity can increase in a quantitative manner by observing supply and demand for a given asset.

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