Journalists have a bias to crisis, just as long-only investors have a bias to stocks going up. Bad news sells papers, and the rewards for posing as the prescient one who predicted a crisis far outstrip the punishments for calling 20 of the last zero recessions. Add a dash of institutional cynicism and an overenthusiastic headline writer, and you have a recipe for perma-bearishness.
That’s the lens through which to view much of the crisis-retro commentary that hit the financial pages last week. You won’t read much too much of it in GlobalCapital — though we did, of course, mark the occasion by talking to the market — but there’s plenty of it to go around.
Candidates for the next crisis include Deutsche Bank, Chinese NPLs, P2Ps, a sudden stop in the emerging markets, a contagious dollar crisis, high level in CLOs, bad covenants in leveraged finance, banks with leverage ratios below 15%, Italian NPLs, Italian government bonds, overvalued tech stocks, stretched housing markets, a eurozone with no fiscal transfers, weak clearing houses, or incomplete regulation. Maybe it’ll come down to bankers still getting bonuses, banks which remain unnationalised, banks which use their own capital models, high frequency trading, fat fingers or markets which use too many acronyms. It’s hard to feel confident about politics, too, with an unpredictable Trump White House jumping each way on trade tariffs, and apparently struggling to grasp the geopolitical seriousness of its actions.
Some of these are absurd, but some really are serious. The eurozone remains vulnerable to political instability in a big, indebted member state like Italy; hard stops in the emerging markets do have a way of reverberating into other markets; and signs of froth in private debt shouldn’t be ignored.
But these crises have a different quality to that of Lehman Brothers.
It’s not that they are predictable, though they have all been extensively discussed. In the nonsensical menagerie of capital markets commentary, they are neither black swans nor elephants in the room. They’re not even 800 pound gorillas.
Instead, they’re issues which are repeatedly and extensively discussed in conferences, research notes and newspapers.
Europe’s NPL problem is pretty big, sure, but it’s not taking anyone by surprise. If you want to put your life savings into Banca Carige stock — well, a quick Google beforehand ought to flag some of the issues. If you’re limit-long BTPs and never bothered to think about the budget negotiations of the governing coalition, you don’t get much sympathy here.
Investors allocating money to private debt, too, are mostly going in with their eyes open. Every asset class has tourists, but analysing corporate credit, large or small, is not a mysterious black box, and higher leverage generally does mean more risk.
What differentiates many of the themes above — and nearly all the “new biggest risk” worries — from the global financial crisis is that, fundamentally, much of the market expects these things to be risky, and the money involved is risk-bearing.
The crisis in the US mortgage market involved securities which were, from a regulatory perspective, treated as risk-free, supporting chains of repo leverage and money market risk transformation also predicated on the securities being risk free. What broke the markets was the radical re-evaluation of the riskless as high risk — not the presence of risk in markets in the first place.
Markets can and do take risks; that’s the whole point. Sometimes they take more risk, sometimes they become risk-averse, and it’s worthwhile for market participants to go carefully, for regulators to monitor stretched valuations, and for banks to lend prudently.
But crises spring not from well flagged credit deterioration, but from rapid collapses in trust, and therefore market intermediation of risk.
There are pockets which are vulnerable to trust issues. The surprising speed with which a lone trader, Einar Aas, blew a €107m hole in Nasdaq Clearing’s default fund, ought to raise questions about the risks in CCPs, which are supposed to be unimpeachably solid nodes in the post-crisis derivatives market structure.
Cyber risks, fraud and money laundering can still materialise from left field, which can lead to the market rapidly losing confidence in previously solid institutions. Institutions like Danske Bank or Swiss fund manager GAM announced issues this summer which have rightly led investors to reconsider just how strong their internal controls actually are.
These issues need attention — particularly if ‘isolated bad apples’ start to seem more frequent, the norm rather than the exception. But none are systemic.
Complacency does nobody any good — but neither does repeatedly crying wolf. Lehman’s anniversary is an opportunity to reflect on the last crisis, not to hallucinate the next one (touch wood).