The rollercoaster keeps going
Wednesday morning, all eyes were on the Fed, and Jerome Powell while he gave his press conference Wednesday afternoon. The dollar was starting to gain a little strength as the recent GameStop phenomenon has made traders acutely aware of the risks of being in a crowded trade, and the short dollar is one of the most crowded out there. The Fed was widely expected to continue their policy of essentially unlimited support, but even a hint of taking their foot off of the gas would have sent the dollar up and equities and crypto down as traders scrambled to reduce their exposure to the crowd. Even before the meeting, many traders were trimming exposure, putting pressure on equities and crypto both, and sending implied volatilities in options higher.
The Fed meeting came and went in about as orderly a manner as any could hope for. Add to that the fact that the big equity earnings numbers all came in quite strong, and I would have expected a strong sigh of relief from the market. And indeed, Thursday morning, that appeared to be what was happening. Both equity and crypto markets trended higher all morning and into the afternoon. But as the afternoon wore on, a new narrative started to spread across financial markets. Many retail stock brokerages, most notably the retail powerhouse Robinhood, restricted new purchases of the soaring stocks that reddit’s r/wallstreetbets had been organizing around, sending shares to astronomical levels as they attacked crowded short positions in struggling companies.
While I don’t have a particularly strong opinion about whether the brokerages were right to impose these restrictions or not, and I can see both sides of the argument, the effect was mass revolt from the very customers that they are supposed to be looking out for. While the restrictions were limited to a few overly frothy stocks, and I believe that they were largely necessary due to regulatory capital requirements combined with the failure of Robinhood’s clearing and custody business to foresee the need to quickly increase their cash reserves as trading became concentrated and one sided, the implications of the disruption in trading has led to both anxiety in traditional equity markets and potentially to confidence in crypto markets, as seen by strong price action across digital assets.
In equities worlds, settlement occurs two full days after the trade date. During this time, brokerages are required to keep reserves to cover risks that might occur between the time a customer makes a trade and the securities are actually settled. Under normal market conditions, with relatively balanced buying and selling across thousands of securities, the net risk is largely offsetting, and the reserve requirements are relatively low. But when trading became concentrated and one sided, these reserve requirements ballooned. To put it simply, while the pipes of Wall Street are robust and well maintained, they were not tuned well for such coordinated trading action. This revelation is rippling through equity markets as it, at least marginally, reduces confidence in the robustness of the system.
On the other side of the coin, crypto markets stayed strong, and the whole debacle is once again forcing discussions around stock clearing and settlement, making us ask: “why do we still need T+2 stock settlement?”. For years, the financial industry has been murmuring about the possibility of using blockchain based solutions to increase the efficiency of settling security transactions. I think that these events might light a fire under those projects and ideas, and could give a bid to ETH, which is the backbone of most of these commercial and industrial blockchain concepts.
Of course, BTC could come along for the ride. And it never hurts when Elon Musk changes his Twitter bio to “#bitcoin”
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