In a 2022 put up, we confirmed how liquidity situations within the U.S. Treasury securities market had worsened as provide disruptions, excessive inflation, and geopolitical battle elevated uncertainty concerning the anticipated path of rates of interest. On this put up, we revisit some generally used metrics to evaluate how market liquidity has advanced since. We discover that liquidity worsened abruptly in March 2023 after the failures of Silicon Valley Financial institution and Signature Financial institution, however then shortly improved to ranges near these of the previous yr. As in 2022, liquidity in 2023 continues to carefully monitor the extent that may be anticipated by the trail of rate of interest volatility.
Significance of Treasury Market Liquidity
The U.S. Treasury securities market is the biggest and most liquid authorities securities market on the earth, with greater than $25 trillion in marketable debt excellent (as of August 31, 2023). The securities are utilized by the Treasury Division to finance the U.S. authorities, by numerous monetary establishments to handle rate of interest danger and worth different monetary devices, and by the Federal Reserve in implementing financial coverage. Having a liquid market is necessary for all of those functions and thus of concern to market members and policymakers alike.
Measuring Liquidity
Liquidity typically refers to the price of shortly changing an asset into money (or vice versa) and is measured in numerous methods. We have a look at three generally used measures, estimated utilizing high-frequency knowledge from the interdealer market: the bid-ask unfold, order guide depth, and worth influence. The measures are estimated for essentially the most not too long ago auctioned (on-the-run) two-, five-, and ten-year notes (the three most actively traded Treasury securities, as proven in this Liberty Avenue Economics put up), and are calculated for New York buying and selling hours (outlined as 7 a.m. to five p.m.).
Market Liquidity Worsened in March 2023
The bid-ask unfold—the distinction between the bottom ask worth and the best bid worth for a safety—is without doubt one of the hottest liquidity measures. As proven within the chart under, bid-ask spreads widened abruptly after the failures of Silicon Valley Financial institution (March 10) and Signature Financial institution (March 13), suggesting lowered liquidity. For the two-year notice, spreads exceeded these noticed in the course of the COVID-related disruptions of March 2020 (examined in this Liberty Avenue Economics put up). Spreads then narrowed over the following month or so to ranges near these of the previous yr however remained considerably elevated for the two-year notice.
Bid-Ask Spreads Widened in March 2023
Supply: Creator’s calculations, based mostly on knowledge from BrokerTec.
Notes: The chart plots five-day shifting averages of common every day bid-ask spreads for the on-the-run two-, five-, and ten-year notes within the interdealer market from September 1, 2019 to September 30, 2023. Spreads are measured in 32nds of some extent, the place some extent equals one % of par.
The subsequent chart plots order guide depth, measured as the common amount of securities obtainable on the market or buy at the very best bid and provide costs. This metric once more factors to comparatively poor liquidity in March 2023, because the obtainable depth declined precipitously. Depth within the five-year notice was at ranges commensurate with these of March 2020, whereas depth within the two-year notice was appreciably decrease—and depth within the ten-year notice appreciably greater—than the degrees of March 2020. Inside a few month, depth for all three notes was again to ranges just like these of the previous yr.
Order Ebook Depth Plunged in March 2023
Supply: Creator’s calculations, based mostly on knowledge from BrokerTec.
Notes: This chart plots five-day shifting averages of common every day depth for the on-the-run two-, five-, and ten-year notes within the interdealer market from September 1, 2019 to September 30, 2023. Knowledge are for order guide depth on the inside tier, averaged throughout the bid and provide sides. Depth is measured in thousands and thousands of U.S. {dollars} par and plotted on a logarithmic scale.
Measures of the value influence of trades additionally counsel a notable deterioration of liquidity. The subsequent chart plots the estimated worth influence per $100 million in web order stream (outlined as buyer-initiated buying and selling quantity much less seller-initiated buying and selling quantity). The next worth influence suggests lowered liquidity. Value influence for the two-year notice rose sharply in March 2023 to a degree about twice as excessive as at its March 2020 peak, after which inside a month or so returned to ranges akin to these of the previous yr. Value influence for the five-and ten-year notes rose extra modestly in March.
Value Influence Rose in March 2023
Supply: Creator’s calculations, based mostly on knowledge from BrokerTec.
Notes: The chart plots five-day shifting averages of slope coefficients from every day regressions of one-minute worth modifications on one-minute web order stream (buyer-initiated buying and selling quantity much less seller-initiated buying and selling quantity) for the on-the-run two-, five-, and ten-year notes within the interdealer market from September 1, 2019 to September 30, 2023. Value influence is measured in 32nds of some extent per $100 million, the place some extent equals one % of par.
Volatility Spiked in March 2023
The failures of Silicon Valley Financial institution and Signature Financial institution elevated uncertainty concerning the financial outlook and anticipated path of rates of interest. Rate of interest volatility elevated sharply in consequence, as proven within the subsequent chart, with two-year notice volatility particularly reaching ranges greater than twice as excessive as in March 2020. Volatility causes market makers to widen their bid-ask spreads and put up much less depth at any given worth to handle the elevated danger of taking over positions, producing a detrimental relationship between volatility and liquidity. The sharp rise in volatility and its subsequent decline therefore assist clarify the noticed patterns within the liquidity measures.
Value Volatility Spiked in March 2023
Supply: Creator’s calculations, based mostly on knowledge from BrokerTec.
Notes: The chart plots five-day shifting averages of worth volatility for the on-the-run two-, five-, and ten-year notes within the interdealer market from September 1, 2019 to September 30, 2023. Value volatility is calculated for every day by summing squared one-minute returns (log modifications in midpoint costs) from 7 a.m. to five p.m., annualizing by multiplying by 252, after which taking the sq. root. It’s reported in %.
Liquidity Continues to Monitor Volatility
As in “How Liquid Has the Treasury Market Been in 2022?,” we assess whether or not liquidity has been uncommon given the extent of volatility by analyzing scatter plots of worth influence towards volatility. The chart under gives such a plot for the five-year notice, exhibiting that the 2023 observations (in grey) fall in step with the historic relationship. That’s, the affiliation between liquidity and volatility in 2023 has been per the previous affiliation between these two variables. That is true for the ten-year notice as properly, whereas for the two-year notice the proof factors to considerably higher-than-expected worth influence given the volatility (as additionally occurred in fall 2008, March 2020, and 2022).
Liquidity in Line with Historic Relationship with Volatility
Notes: This chart plots worth influence towards worth volatility by week for the on-the-run five-year notice from January 1, 2005, to September 30, 2023. The weekly measures for each sequence are averages of the every day measures plotted within the previous two charts. Fall 2008 factors are for September 21, 2008–January 3, 2009, March 2020 factors are for March 1, 2020–March 28, 2020, 2022 factors are for January 1, 2022–December 31, 2022, and 2023 factors are for January 1, 2023–September 30, 2023.
The previous evaluation relies on realized worth volatility—that’s, on how a lot costs are literally altering. We repeated the evaluation with implied (or anticipated) rate of interest volatility, as measured by the ICE BofAML MOVE Index, and located comparable outcomes for 2023. That’s, liquidity for the five- and ten-year notes is in step with the historic relationship between liquidity and anticipated volatility, whereas liquidity is considerably worse for the two-year notice.
Continued Vigilance
Whereas Treasury market liquidity has not been unusually poor given the extent of rate of interest volatility, continued vigilance by policymakers and market members is suitable. The market’s capability to easily deal with giant buying and selling flows has been of concern since March 2020, as mentioned in this Brookings paper. Furthermore, new empirical work exhibits how constraints on intermediation capability can exacerbate illiquidity. Cautious monitoring of Treasury market liquidity, and continued efforts to boost the market’s resilience, are warranted.
Michael J. Fleming is the top of Capital Markets Research within the Federal Reserve Financial institution of New York’s Analysis and Statistics Group.
The best way to cite this put up:
Michael Fleming, “How Has Treasury Market Liquidity Developed in 2023?,” Federal Reserve Financial institution of New York Liberty Avenue Economics, October 17, 2023, https://libertystreeteconomics.newyorkfed.org/2023/10/how-has-treasury-market-liquidity-evolved-in-2023/.
Disclaimer
The views expressed on this put up are these of the writer(s) and don’t essentially replicate the place of the Federal Reserve Financial institution of New York or the Federal Reserve System. Any errors or omissions are the duty of the writer(s).
