With all of the recent market volatility, investors and issuers have been shocked in many ways by the sudden and unprecedented surge in market turmoil. Recently, we had the opportunity to listen in on a call with one of the largest Designated Market Makers (DMMs) on the New York Stock Exchange and gained some perspective on the current state of the markets and what we might expect moving forward.
First, there is some positive news on the recent shift from traditional floor operations to all electronic trading. The transition through the first two days was working as planned, and, even with the surge in volatility, the “market plumbing” has continued to function well. There have been no changes to market liquidity. Retail investor demand has also held up well, accounting for approximately 15% of total volume, and, notably, retail holders have not been major sellers in the market.
On the other side of the ledger, volatility has seen an unprecedented surge. As an example, the circuit breakers implemented on the NYSE following the “flash crash” of 2010 were never used in nearly a decade following their implementation but have come into play four times in the past two weeks of trading, functioning as intended. Unlike other periods of volatility, the selling pressure has not come from traditional hedging activities but rather from outright liquidations of positions on the part of fund managers.
Fund liquidations resulting from shareholder redemptions have been a source of volatility, but there are two factors that may help alleviate this. First, most index funds have suspended their quarterly rebalancing that was set for the end of March. Second, the Federal Reserve is contemplating new programs that might benefit ETFs and certain other funds, allowing them to access loans to cover redemptions in high volatility collateralized by securities. The result is that rather than forced selling in a market panic, funds could cover redemptions and subsequently trade after the market has calmed.
As we continue to navigate these challenging times, know that there is confidence in the markets to function normally with adequate liquidity, even if we still have to deal with higher levels of volatility over the near term.