By Wall Street professionals have become worried about foreign divestment of U.S. assets, according to a Federal Reserve report on financial market stability released Monday.
In preparing its latest report, the New York Fed solicited views from a range of contacts on Wall Street.
According to the survey, 41% of participants cited concern of foreign disinvestment. In the prior survey, released in November, the concern wasn’t even mentioned.
Also making the list for the first time was the Russian invasion of Ukraine. More than 75% of participants mentioned that concern.
Risks that the Fed might overtighten was a concern of 68% of participants, while risk-asset valuation and a correction were mentioned by half of the participants.
Contagion from commodity markets
The Fed report said that large financial firms could be exposed to contagion from large price movements and margin calls in commodity markets.
“The Federal Reserve is working with domestic and international regulators to better understand the exposures of commodity-market participants and their linkages with the core financial system,” said Fed Vice Chairman Lael Brainard, in a statement.
Concern over drop in market liquidity
Another concern highlighted in the report was deterioration in liquidity in many markets, including the critical market for Treasurys.
Since the last report in November, the Fed said there was a “notable deterioration” in Treasury market liquidity.
“Low market liquidity likely contributed to large fluctuations in prices of financial assets, but markets functioned well overall,” the Fed said.
Market liquidity is the ease of buying and selling desired quantities of an asset.
According to some measures, market liquidity has declined since late 2021 for recently issued U.S. cash Treasury securities and equity index futures. These markets play a key role in the functioning of the economy and financial system, and are usually heavily liquid, the Fed said.
Market depth has decreased for the interdealer U.S. Treasury securities, S&P 500 E-mini futures
ES00,
-2.91%
and West Texas Intermediate crude oil
CL.1,
-6.43%
futures markets, the Fed said.
At first, the decline in depth reflected rising uncertainty about the outlook for the Fed’s interest-rate policy. In oil markets, depth has declined because of the volatility associated with the war in Ukraine.
But more recently, the depth of these markets is remarkable even when the volatility is taken into account.
“This markedly low depth could indicate that liquidity providers are being particularly cautious, and liquidity may be more fragile than usual,” the Fed said.
“Declining depth at times of rising uncertainty and volatility could result in a negative feedback loop, as lower liquidity in turn may cause prices to be more volatile,” the Fed said.
The central bank noted that bid-ask spreads remain more stable in the most liquid markets.
