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Why is this a key talking point in the industry right now?
The extended period of low volatility, ample quantitative easing and the explosive growth of ETFs and Passive, have created a false sense of liquidity in certain assets that are inherently less liquid. Examples could include High Yield, Emerging Markets local currency bonds, and small cap equities.
During the same period, Dealers’ balance sheets have contracted almost 5-fold following the change in their capital, liquidity and leverage requirements which has made it more expensive for them to hold inventory. The big question we need to ask ourselves is who will be the liquidity providers in the time of another financial crisis, how much liquidity can they provide, how quickly and at what cost.