Financial markets are entering new era, El-Erian says

Speaking at ABS East on Monday morning, Allianz Global Investors chief economic advisor Mohamed El-Erian told attendees that a definitive era in the history of financial markets is coming to a close, and that the future is looking highly uncertain.

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“We are coming from a really amazing golden age, where liquidity was ample and predictable,” El-Erian said in his keynote question and answer session. “We are slowly putting age behind us.”

Liquidity, or the lack of it, was a key theme of the former Pimco CEO’s remarks. Specifically, he cautioned the audience on overestimating the amount of liquidity in the markets, and to avoid overconfidence in the role central banks are playing in amplifying liquidity. El-Erian said that in his opinion, a recession before the 2020 election was not likely, unless the market makes a misstep or “talks itself into a recession”.

“My biggest concern is that we’ve overpromised liquidity as a marketplace…Every time there is a crack, the market learns that there is not as much liquidity as we presumed, and cracks will become more numerous as central bank willingness to provide liquidity evaporates,” El-Erian said, adding that a government shutdown would be another event with the potential to trigger a recession.

While he was mostly unconvinced by the idea that interest rates in the US have the potential to enter negative territory, El-Erian did warn ominously that this would “terrible news” for the US and global economy. He warned that the markets are not built for negative rates, and they encourage the “wrong kind of risk taking”.

The discussion, which was organized as a live Q&A with attendees submitting questions during the talk, was heavily tilted towards fears in the macro and political spheres. Trade wars and political anxieties were clearly top of mind for attendees. On the question of whether the market should fear an Elizabeth Warren presidency, El-Erian had this to say:

“That Warren is doing well has an important message for markets. People are angry, and when people are angry…they are happier to dismantle than they are to create. It was a big lesson learned from Brexit. People voted to dismantle a the system without having any idea what to replace it with.”

As for how navigate the new world, where political black swans frequently collide with financial market volatility, El-Erian told the audience that a new mindset would be needed, and to recognize that tail risks are more likely than ever.

“The economy is going forward but not fast enough…It means you will have to have a different kind of mindset, and there are quite a few opportunities if you can do that.”