In my view the race to bottom regarding asset management fees is adding to market illiquidity.  Bloomberg writes there is approximately $8 trillion between ETFs and passive index funds.  There is little barrier to entry and hundreds of companies are launching new products daily.

The issue at hand is that passive investing makes almost no money for the asset management company with the asset management company wedded to gathering new assets to generate any fees.

Bloomberg write for every $1 trillion in assets, passive funds earn about $1 billion.  That jumps to $6.6 billion for active funds and $14 billion hedge funds.  Passive managers can earn monies either on credit balances or stock lending but this takes scale.  This avenue is also available for any other large sized asset manager.

As noted many times, by regulatory design market liquidity is now dominated by the “buy side” and algorithmic trading firms instead of specialists and other traditional structures that were able to profit in times of volatility.

It is widely documented “algos” and other technology based platforms disappear in times of volatility.  Additionally fear is more powerful than greed thus suggesting that today’s regulatory  engineered “buy side” liquidity structure will also disappear for two simple reasons.

First, owners of the ETFs/index funds are typically selling not buying positions in times of volatility.  Second the asset management companies will not take risked based positions for there is little margin for error.  The $1 billion in fees is not enough to offset potential momentary trading losses.  Selling could accelerate into the potential ensuing vacuum.

Radical thought?  Such is already occurring in many markets especially the commodity markets. The volatility is intense where components swing from a bull market to a bear market to back to a bull market in the matter of weeks.  The cycle time of markets has greatly accelerated.

Little attention has been focused on this intense volatility.

It is often written that the response to yesterday’s crisis is the genesis for the next crisis.

The above thoughts are gaining considerable attention from market luminaries.  Hopefully there will be meaningful change before any such liquidity issues arise.

Commenting about yesterday’s market activity, Treasuries again rallied voraciously following the continuation of anti-government protest in Hong Kong and potential for another Argentinian debt crisis.  Equities fell about 1.5%.

Last night the foreign markets were down.   London was down 0.44%,  Paris down 044% and Frankfurt up 0.82%  China was down 0.63%,  Japan down 1.11%  and Hang Sang 2.10%.

The Dow should open nervously flat.  The Yuan was priced nominally higher but the protests in Hong Kong are beginning to weigh upon the markets.  How will the outcome affect trade?   Argentina is also becoming part of the narrative.  The 10-year is unchanged at a 1.65% yield.


The views expressed herein are those of Kent Engelke and do not necessarily reflect those of Capitol Securities Management. The information contained herein has been compiled from sources believed to be reliable; however, there is no guarantee of its accuracy or completeness. Any opinions expressed are statements of judgment on this date and are subject to certain risks and uncertainties which could cause actual results to differ materially from those currently anticipated or projected. Any future dividends, interest, yields and event dates listed may be subject to change. An investor cannot invest in an index, and its returns are not indicative of the performance of any specific investment. Past performance is not indicative of future results. The material provided in Daily Market Commentaries or on this website should be used for informational purposes only and in no way should be relied upon for financial advice. Please be sure to consult your own financial advisor when making decisions regarding your financial management. Members of FINRA and SIPC, Capitol Securities Management is a privately owned full-service retail brokerage and investment advisory firm headquartered in Richmond, Virginia. For nearly 30 years, we have been serving the needs of our investors. Today, more than 200 Capitol Securities Management investment professionals and support staff serve approximately 18,000 customer accounts from Southern Florida to the New England coast.