Liquidity Cycle Analysis: Current Market Conditions and Future Trends

In the long course of economic development, understanding the liquidity cycle is crucial for asset allocation. Wealth that is passed down through generations often emerges during key periods of transition from tightening to loosening. Let us delve into the current economic environment and the possible directions for future development.

The Importance of Liquidity Cycles

Central bank liquidity policies are like the lubricant of the global economic engine. Excessive injection may lead to a "overheated" market, while excessive contraction may cause the economy to "stagnate". Mastering the pulse of the liquidity cycle can help investors anticipate market bubbles and crashes.

The Four Stages of Liquidity from 2020 to 2025

1. Surge Phase (2020-2021)

   • Features: Zero interest rate policy, large-scale quantitative easing, massive fiscal stimulus
   • Impact: Global money supply (M2) growth rate hits a record high

2. Exhaustion Phase (2021-2022)

   • Features: Significant increase in interest rates, quantitative tightening begins, rescue plan terminated
   • Impact: The bond market suffered a heavy blow, with a decline of about 17%.

3. Stable Phase (2022-2024)

   • Features: The policy remains tight with no new measures.
   • Purpose: Fully leverage existing policy effects to curb inflation

4. Preliminary Transition Phase (2024-2025)

   • Features: The world begins to cut interest rates and relax restrictions
   • Trend: Although interest rates remain high, they have started to decline.

Mid-2025 Market Conditions

Currently, we are at the intersection of a stable phase and a preliminary turning phase. Interest rates remain high, and quantitative tightening continues. Unless there is a significant external shock, the policy direction is likely to continue easing.

Liquidity Indicator Analysis

Comparison of key liquidity indicators for the years 2017, 2021, and 2025:

1. Interest Rate Cut Situation

   • 2017: The Federal Reserve raised interest rates, and there were few easing policies globally.
   • 2021: Global emergency interest rate cuts to near zero levels
   • Year 2025: Interest rates remain high, but there may be a slight reduction by the end of the year.

2. Quantitative Easing/Tightening (QE/QT)

   • 2017: The Federal Reserve began tapering, while other central banks continued to buy bonds.
   • 2021: Unprecedented scale of quantitative easing launched globally
   • 2025: The Federal Reserve continues quantitative tightening, Japan maintains easing, and China selectively injects Liquidity.

Key Indicators for Mid-2025

• Interest rate cut: The policy interest rate remains high and may be cut for the first time in the fourth quarter.
• QE/QT: Quantitative tightening continues, with no new quantitative easing plans, but early stimulus signals have emerged.

Important Signals to Pay Attention To

1. The inflation rate has fallen to 2%, and policymakers announce a risk balance.
2. Quantitative tightening pause (setting a cap or 100% reinvestment)
3. The three-month FRA-OIS spread exceeds 25 basis points or the repo rate suddenly rises.
4. The People's Bank of China has fully lowered the reserve requirement ratio by 25 basis points.

Conclusion

The market has not yet entered a new round of surge. Before most liquidity indicators turn positive, the market may continue to experience fluctuations in risk appetite and has not yet entered a true boom period. Investors should closely monitor the above signals to grasp the future direction of the market.