Financial Industry Insights from Advisors Asset Management


And the Beat Goes On... Liquidity and Leverage

Continuing the discussion from last week about the discussion of Leverage and Liquidity, we focus a bit on why there are some economic and market metrics that don’t corroborate the “feelings” that permeate discussions. 

As we have detailed many times before, the Great Financial Crisis had similar impacts on the psychology of the markets and economy that the Great Depression did.  Perhaps the combination of the tech sell-off in 2001, the national housing crisis in 2006, and the Great Financial Crisis could be combined to mirror the impact of the Great Depression, but one must consider that three massive events within seven years of each other has had a profound impact.

Consider that the Bank of International Settlements (BIS) macro indicator of debt service ratio of both public and private corporations in the United States is showing lower levels than previous cyclical highs. Of specific note, consider the Private Non-Financial Level is well off its highs and at much lower levels than the public sector. This explains the enormous rise in the desire for private debt investors out there. 


What is typical in late-stage cycles is the rise in Mergers and Acquisitions as increased equity prices and cash flow levels have larger companies seeking “synergy” for future growth. One could argue that this has not risen as much as one would have expected considering the length of the current expansion and elevated levels of corporate stock buybacks.



As we have pointed out over the last five years, the long-term impact of the corporate stock buy backs are having a macro impact that goes unnoticed until it hits its massive impact. Consider the macro impact of stock buybacks and IPOs issued for a parochial view of how much stock supply has been removed.



Source: Insider Score, Renaissance Capital

The following graph also shows that the cumulative flows from households, Foreigners, and ETFs (Exchange Traded Funds) has affirmed the divergence of positive corporate sentiment to outright paranoia from other investors. 


What has changed since the end of 2018 is the increase in capital raised but in fewer priced IPOs so far this year and questionable performance.  According to Renaissance Capital:

  • 57 IPOs priced this year, -16.2% from last year

  • $23.7 billion raised this year, up 4.4% from last year

If there is one thing that should bring caution to equity investors is the rise in IPOs from a capital standpoint and somewhat lukewarm response from the markets.

Just as the leverage factors in the private debt service ratio has increased demand for that product, there has been a proliferation in the money wanting to be used for private equity. The challenge is there appearing to be far more money than available investments. According to a Bloomberg article by John Gittelsohn “Private Equity Cash Turns Off Some Clients, Mutual Fund CEO Says”, there currently is $1.26 trillion in undeployed capital for private equity firms.

Investors that have been more risk-off due to economic and market calamities has had a lasting impact on the U.S. Banking system. We could recognize the Quantitative Easing experiment that has dominated Central Bank thinking across the world, however consider the cash assets held at the Federal Reserve from Commercial Banks.


Prior to the Lehman Brothers event, cash assets averaged $271 billion from 1990-2008. Soon after Lehman Brothers in September 2008, cash exploded and since then, cash assets have averaged $1.97 trillion. We have taken note that certain firms are stating the decline in the cash assets from the near $3 trillion to the current $1.73 trillion has elevated concern about liquidity in the banking system, one should always take note of how the current number compares to a longer period. When one uses anomalies for comparison purposes and attempts to extrapolate future events, one will find mixed results at best or worse, outright erroneous conclusions. The fact of the matter is there is far more liquidity in the system than we have seen at later stages in the economic cycles from past times. 

One shouldn’t conclude that it is smooth sailing as there must be a relative basis for measuring the current levels as it pertains to psychological influenced benchmarks. There appears to be a rising sense of overall fatigue from investors about the elevation of general market events as DEFCON 1 warnings. A conclusion is that the apathy that many complain about may proliferate in the final stages of this economic expansion. 

A solution we see that needs to be implemented earlier than previous cycles is the elevating of credit quality and be more pragmatic about where the sources of income come from a portfolio. As evidenced lately about some more exotic strategies being used to enhance income, experience tells us that not stretching beyond what the market provides and keeping a balanced approach about the cyclical and secular moves benefits the long-term investor. 

CRN: 2019-0501-7408R 




This commentary is for informational purposes only. All investments are subject to risk and past performance is no guarantee of future results. Please see the Disclosures webpage for additional risk information at commentary-disclosures. For additional commentary or financial resources, please visit


2020 Investment Outlook

awarded Top 100 Wealth Management Blog

Author Image

Ask the Author

AAM wants to hear from you. Complete the form below to email the author with any questions or comments you may have. We understand that every firm handles interactive communications differently and will not post any feedback we receive without your consent.