Liquidity & Funding

A hedge that is right on paper can still fail if it cannot be funded through margin calls. This hub distinguishes market liquidity from funding liquidity and covers how firms manage the cash demands that derivatives positions create.

How it works

There are two distinct liquidities. Market liquidity is the ability to trade an asset quickly without moving its price. Funding liquidity is the ability to meet cash obligations as they fall due — most sharply, the margin calls a derivatives position generates. The two interact dangerously: a hedge can be economically correct yet still sink a firm if rising variation margin cannot be funded, forcing the position to be closed at the worst possible time. Managing liquidity therefore means holding cash and high-quality liquid assets against plausible calls, not just marking the hedge to market.

In practice

After 2008, Basel III introduced two standards: the Liquidity Coverage Ratio (LCR) — enough high-quality liquid assets to survive a 30-day stress — and the Net Stable Funding Ratio (NSFR) for longer-term funding stability. The textbook case for commodity firms is the 2022 European energy crisis: the TTF gas benchmark spiked to roughly ten times its prior-decade level, cleared initial-margin calls ran more than 20× the pre-stress average, and intraday variation-margin calls of hundreds of millions strained even solvent, well-hedged firms — prompting regulatory work on margin transparency and liquidity preparedness.