The Federal Reserve has gone to great lengths to assure the public that the contemplated rise in interest rates will be gradual while the overall tenor of monetary policy remains accommodative. As proof, the Fed points to its balance sheet that hasn’t shrunk in size by continually rolling over maturing debt on its books. But if that’s so, why has the market been in such disarray since December’s rate hike? After all, liquidity is the lifeblood of the market and if liquidity is not being constrained shouldn’t risk assets continue to levitate higher? We believe that they would if that last statement was true. In reality, de facto tightening has been underway as liquidity is being drained from the system.
