Overview
Palanor: Liquidity is the weather, not the climate — a 0–100 read of how plentiful or scarce dollar liquidity is right now. It rises when the Fed is expansive, when credit spreads are tight, when the dollar is soft, and when policy rates sit below their neutral anchor. It falls in the inverse regime. We watch this index because almost every other reading — risk appetite, inflation pressure, equity multiples — bends to it.
Why these components
The Fed balance sheet (WALCL) carries the largest weight because base liquidity sits upstream of everything else; we use the 12-month percent change so that the contribution reflects regime — easing, neutral, tightening. The reverse-repo facility (RRP) is included with a negative sign: when RRP balances rise, excess liquidity is draining out of the banking system into a sterile Treasury facility. Credit spreads (high-yield and investment-grade OAS) are the market's real-time price of liquidity at the riskier end of the curve; they widen when liquidity withdraws. The trade-weighted dollar (DXY) is the cross-border lever — a strong dollar tightens global liquidity even when the domestic balance sheet is steady. The fed funds rate is recentered to a neutral anchor near 3.5% so the index reads accommodation vs. restriction rather than absolute level.
Methodology
Each component is transformed to a comparable z-style scale (z-score over 24 months, 12-month % change, or level recentered to a neutral anchor) and sign-flipped where negative. The weighted sum is mapped through a logistic function to 0–100. Missing components are dropped and remaining weights renormalized.
Interpretation
Readings above 65 indicate a flush liquidity regime — the kind in which risk assets reach for multiples and credit can absorb shocks. Readings below 35 indicate a draining regime, in which financial conditions are tightening regardless of what the Fed has formally announced. Sharp inflections in this index lead most other macro narratives by weeks.
Caveats
Liquidity is a much-debated construct. There is no single canonical measure. This index is a working composite, not an academic one. It is most useful for direction-of-travel and regime detection, not for level claims. The neutral-rate anchor at 3.5% is a working assumption; reasonable analysts hold it anywhere from 3% to 4%.