Step 1: One
trillion of US corporate profit repatriation. US tax reform resulted in all offshore corporate profits
being “deemed” repatriated and relieved of future tax liabilities. This in turn resulted in a
record-breaking 1 trillion dollar shift of US corporate earnings to their onshore entities. The shift had
no currency impact – the liquidity was already held in short-dated dollar assets but merely recorded
offshore from an accounting perspective. It happened all in one go in the first half of the year.
Step 2: US corporates liquidate their dollar deposits . One of the unusual features of this Fed
hiking cycle has been rising money market rates over and above the increase in Fed fund rates. This can
be most clearly seen in rising Libor – OIS spreads earlier this year. Part of this rise is attributable
to the surge in treasury bill issuance. But spreads rose in commercial paper and front-end credit where
most of offshore US corporate liquidity resided too. Just as the Fed started raising the risk-free rate,
US corporates abandoned dollar liquidity. What did US corporates do?
Step 3: US corporate
buybacks soar, the first twist. The bulk of corporate repatriation was deployed in equity buybacks. S&P
500 purchases have soared to the highest on record this year and we project will reach $800bn by
year-end. To the extent that US corporate dollar liquidity was sitting unused in short-dated assets, this
deployment of cash constitutes one of the largest risk transfers in the history of financial
Step 4: Pension funds rotate from equities to bonds, the second twist. Our fixed
income colleagues have documented the pension fund rotation dynamic well. US pensions are over-weight
equities and stock out-performance this year has led to large liquidation of their holdings, in turn
deployed into long-dated US bonds. This buying can best be seen in the record-breaking size of stripped
treasuries, the preferred habitat of US pension funds. The surprising yield curve flatness this year can
be mainly attributed to the pension phenomenon representing a price-insensitive removal of fixed income
duration from the market equivalent to Fed QE.
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