On this last point, an old Gavekal trope has it that liquidity crises resemble dynamite fishing. When a stick of dynamite is detonated under the sea (let alone 200kg equivalent, as seems to have occurred off Denmark’s coast this week), everything in the vicinity is killed. The coral dies, little fish die and so do any whales in the vicinity. The tiddlers quickly come up to the surface, but it takes longer for any whale carcasses to emerge. Historically speaking, it is when the whales show up that policymakers shift gear and reinject liquidity. In my career, whales have included Mexico in 1994, Asia, Long-Term Capital Management and Russia in 1998, Enron and MCI-Worldcom in 2001-02, Lehman, AIG and Bernie Madoff in 2008 and the US repo market in 2018.

Now, in the past few weeks, the financial markets’ waters were undeniably troubled. We have seen surging currency volatility, huge moves in government bond markets, especially in the US and the UK, and collapsing equity prices. The waters were sufficiently turbulent to suggest that a whale may soon show up. Indeed, on Monday, I speculated that the underfunded US pension fund system could be the surprise whale, whose troubles would force the Fed to change course (see The US Dollar Wrecking Ball)? I was wrong—by one letter. It turns out that the whale was most likely the UK pension fund system.

Eoin Treacy's view

The margin call on UK pensions was a big deal and has painted the Bank of England into a difficult position. They can’t very well cap long yields and continue to raise rates at the same time and hope to get inflation under control. Ultimately, the issue with a dearth of assets relative to obligations will need to be addressed. To me the UK situation is more like a big dolphin than a whale. Interest rates are still rising and liquidity tightening. There is ample scope for more trouble.