Investors Peer Through Y2K Hype

Updated 11:18 AM ET November 24, 1999

By Andrew Priest

LONDON (Reuters) - As stock, bond and currency markets struggle to price in fears of a liquidity crunch around the turn of the millennium, more skeptical investors are starting to see through the hype and focus on the real risks.

Concern about the impact of the date change on computer systems, the so-called millennium bug (Y2K), has for months promised a greater drop in liquidity than usual at yearend as investors rush to square portfolios and boost cash.

But someone looking at equity market prices and turnover in recent weeks might wonder what the fuss was about. Fixed income and currency markets have been more nervous, but there are still few indications yet of sub-normal volumes for this time of year.

Traders and brokers continue to talk about "when" volumes dry up rather than reporting an actual fall off and this in itself is adding volatility.

"People are worried about getting into something for a potentially small return and maybe not being able to get out," said Andy Baxter, head of foreign exchange at Commonwealth Bank of Australia.

As a result, investors were seeking safe havens just in case and this would help support the dollar in coming weeks.

"Movements toward the U.S. dollar are being helped by the Fed's careful attention to liquidity," Baxter said.

The U.S. Federal Reserve has moved to ensure its banking system is not short of liquid funds over the Y2K weekend, increasing the range of collateral it will accept in securities repurchase agreements and issuing "liquidity options."

If global asset market liquidity dried up it would be hard to execute investment strategies, as wide gaps between bid and offer currency prices, yawning credit spreads and volatility in equity and bond prices would make trading too costly.

Foreign exchange traders said it would become increasingly difficult to trade in large blocks, even in major currencies, with trades having to be sliced up to avoid moving prices.

Some traders expect markets to grind to a halt as soon as next week, but others said there could still be reasonable volume for a couple of weeks after that.

In peripheral currencies, such as the Scandinavian crowns and the Australian dollar, however, spreads were already wider.

In global bond markets too, there has been a shift to more mainstream markets, with futures and options increasingly used instead of cash markets to price in changing economic assumptions.

The U.S. long bond (US10YT-RR) cash yield has see-sawed between 6.23 and just below 6.00 percent in recent weeks. The 10-year German Bund yield went from 5.40 percent in mid-October to below 4.80 percent a week ago and is now at 5.10 percent.

Volatility on March U.S. Treasury options and German Bund options has already risen close to 10 percent from four percent during more stable times.

As the new millennium nears, banks' demand for short-term funding is likely to continue to grow, analysts forecast, boosting the yield pick-up available to those putting their cash positions into 2- or 3-month deposits, avoiding the year end.

"Our view is that we could see yields drifting higher, so we have no desire to be actively trading. The cash we had available given we are underweight duration has been placed into January and February 2000 maturities," said Neil Ellerbeck, senior fixed income portfolio manager at Chase Asset Management.

EQUITY MARKETS EXCEPTION AT PRESENT

Yet, volumes in many European bourses have been at record levels in recent weeks, buoyed by news such as Vodafone Airtouch's (VOD.L) takeover bid for Mannesmann (MMNGn.DE).

The London Stock Exchange traded an all-time record of almost 2.8 billion shares last Wednesday, double the daily high in 1998 and beating the 2.7 billion mark set in March 1997.

Volumes have declined this week. But, with 1.2 billion shares traded on Monday, they are still well above the average of 932 million shares traded daily in November 1998. "But some of the volatility at the moment is being caused by people trying to close out positions early and I would expect volumes to increase over the next two weeks and then decrease quite sharply," said a broker at Instinet, the electronic brokering unit of Reuters Group Plc.

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Ray

-- Ray (ray@totacc.com), November 24, 1999

Answers

Gary North's Surviving All 3 Stages Of A Complete Flight To Cash, written in October 1998, might be worth perusing. Click on the following

Link

and select issue #32 of the "Reality Check" series.

-- Jack (jsprat@eld.~net), November 24, 1999.

Maybe they are all right and we ARE nuts!!!!

One can hope.

-- mushroom (mushroom_bs_too_long@yahoo.com), November 24, 1999.

NURSE!!!! this guys NUTs------grabbem!

-- d----- (dciinc@aol.com), November 24, 1999.