Easing trade tensions in mid-October triggered a risk-on phase in global financial markets. Equity prices rallied, reaching new highs in the United States in November. At the same time, credit spreads tightened, and yields on safe sovereign bonds edged higher. Nevertheless, the economic outlook remained tepid and inflation low, leading central banks to ease further.
The renewed risk appetite, coupled with loose financial conditions, sparked questions about the sustainability of asset valuations. Investors' compensation for bearing risk seems to hinge on the term premium; to the extent that the premium is unusually low, it may flatter valuations.
The December BIS Quarterly Review also discusses the resilience of dollar and euro repo markets:
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Fernando Avalos, Torsten Ehlers and Egemen Eren (BIS) analyse the stress experienced in the US dollar repo market in September. They explain how changes within the market and the US banking system amount to a structural shift that increased the market's vulnerability.
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Kostas Tsatsaronis (BIS), Angelo Ranaldo and Patrick Schaffner (University of St Gallen) examine the functioning of the euro repo market. They find that demand for collateral has replaced funding considerations as the main driver of activity, increasing segmentation.
Six feature articles analyse the results of the latest BIS Triennial Central Bank Survey of Foreign Exchange and Over-the-counter (OTC) Derivatives Markets:
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Philip Wooldridge (BIS) summarises the main insights from the 2019 Triennial Survey and contrasts the rise in trading activity with the constrained growth of outstanding exposures.
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Andreas Schrimpf and Vladyslav Sushko (BIS) discuss how the increased use of FX swaps to manage funding liquidity, coupled with renewed growth in prime brokerage, boosted FX trading to $6.6 trillion per day in April 2019. Together with Frank Packer (BIS), they also investigate reasons for the relatively modest increase in trading of the Chinese renminbi, which remained the world's eighth most traded currency.
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Schrimpf and Sushko also look at how electronification has transformed FX trade execution. Market fragmentation has increased, and FX intermediation has become more concentrated within top dealers' proprietary liquidity pools. At the same time, FX settlement risk has increased.
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Nikhil Patel and Dora Xia (BIS) explore why FX trading involving emerging market currencies grew more rapidly than that for major currencies between 2016 and 2019. They find that activity was spurred by global demand for emerging market assets and the rise in electronic and automated trading. Electronic trading, in turn, boosted the offshore trading of non-deliverable forwards.
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Torsten Ehlers and Bryan Hardy (BIS) explain why the daily turnover of OTC interest rate derivatives more than doubled between 2016 and 2019, to $6.5 trillion. They address how structural changes, including clearing, compression and automation, drove OTC interest rate derivatives markets to more closely resemble exchanges.
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Sirio Aramonte and Wenqian Huang (BIS) highlight trends in the composition of outstanding OTC derivatives, notably a rise in the euro's share by market value. They also explore reasons behind the voluntary migration of some OTC derivatives to central clearing.
Full press release on BIS
Full review on BIS
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