The recurring 8/9 year pattern of market crises – 1973/74, 1980/81, 1989/90,1997/98 and 2007/08 – threatens to repeat again in 2016. US liquidity is falling and pan-Asian liquidity remains weak. Only the Eurozone can boast strong liquidity conditions, and here the sizeable interventions of the ECB mean that the Euro will likely stay under downward pressure. Our three overriding concerns centre on: (1) the implications of still huge Chinese capital outflows (US$146 billion forDecember) for the Chinese markets and Asian economies; (2) the persistent weakening in US corporate cash flow with its negative implications for credit spreads, share buy-backs and economic activity, and(3) the further risks to general market liquidity associated with the Fed’s US rate hike and step-up in reverse repo activity (US$572 billion 6th January).

Global Liquidity, our forward-looking indicator of investment risk and future economic prospects, slid lower at the end of 2015, closing the year at an index value of 41.8 (‘normal’ range 0-100). The Emerging Market Liquidity subcomponent (EMLI™) settled at a far lower index value of 30.2, or barely changed on the month and only a tad higher compared to end-2014. The GLI™ (Global Liquidity Index) and the EMLI™ both warn of continued tough investment markets and slower economic activity ahead.

Global Liquidity our forward-looking indicator of investment risk and future economic prospects slid lower at the end of 2015, closing the year at an index value of 41.8 (‘normal’ range 0-100). This compares to 50.2 for end-2014. The GLI (Global Liquidity Index) essentially trended lower consistently through 2015 and its low level warns of continued tough investment markets and slower economic activity ahead. Liquidity is not yet at the sub-30 index levels that warn of economic recession and financial crisis, but this is consistent with choppy markets that grind lower. Three particular statistics focus our attention: (1) US private sector liquidity growth (index 65.9); (2) Chinese Central Bank (PBoC) liquidity provision (index 37.3) and (3) net capital inflows/ outflows from China (minus US$146 billion, or US$0.8 trillion of net outflows for 2015). However, since PBoC actions largely rest on the pace of capital outflows, the second and third factors essentially boil down to the same capital flow question: When will China’s capital flight end?

This report explains why we use liquidity indexes to measure Central Bank behaviour and shows that, contrary to popular belief, the US Federal Reserve may not be as ‘loose’ as its low interest rate stance suggests. In short, further rate hikes in 2016 risk a policy error.

US private sector and Chinese PBoC liquidity plus cross-border flows to EM are critical factors.

To the extent that the Fed raised rates smoothly by 25bp without any serious dislocations, apart from a small jump in the US dollar and a further widening in credit spreads, the answer is yes. However, set into a wider context of credit market control, the truth is that it will take weeks or months to fully understand. But the real story, for us, is that the US markets are tightening faster than the Fed! A flatter US Treasury curve may be the logical result.

Latest Emerging Market Liquidity readings confirm another set of poor numbers for end-November 2015. The Emerging Market component of our broader GLI™ series (Global Liquidity Index) remains soft at a sub-par index level of 34.2 (‘normalised’ range 0-100).

The PBoC [China’s People's Bank] has just announced a new exchange rate index. The Market is jumping to the conclusion they will target this. The exchange rate basket comprises approximately one-third US$ and related currencies; 27% European units; 14% commodity-related currencies and 27% other Asian units.

The November 2015 GLI™ (Global Liquidity Index) fell back to a reading of 44.5 (‘normal’ range 0-100) from a revised up 47.6 index for end-October. The GLI™ has been consistently below the neutral 50-index level since December 2014. GLI™ readings of between 40-50 indicate ‘tight liquidity’ and sluggish growth, but values below 30 are typically associated with economic recessions and bear markets in risk assets. The Global Liquidity picture is not supportive for risk assets and warns investors to remain wary

After more than five years of underperformance, it must be Buggin’s turn for Emerging Markets to excel in 2016? We agree that the positives are slowly coming together, but based on liquidity data we may still be a few months away from returning to EM assets. One reliable indicator is the excess of EM over DM liquidity and this is still in negative territory. Another is the risk positioning of investors in EM assets: despite the large sell-off over the past 12 months, it would appear from the data that investors’ risk appetite still looks high, on average.