Climate change and systemic financial risk

May 22, 2016

The rise in global temperatures calls for a lower-carbon economy overtime. This poses systemic financial risk in two ways. First, large fossil-fuel reserves may become unburnable, triggering a collapse in asset valuations and a rise in corporate and sovereign default risk. Second, ecological deterioration may trigger belated and sudden policy adjustments, forcing the financial system to confront large underestimated carbon risk exposure and an economic recession at the same time.

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The role of macroprudential policy

December 5, 2015

Macroprudential measures are often seen as a counterweight to ultra-easy monetary policy in the developed world. BIS research cautions against this expectation. Macroprudential policies are largely new and untested, have worked best as a complement (not offset) to monetary policy, and focus on specific sectors, such as banking and housing.

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The growing concerns over market liquidity

November 7, 2015

Market liquidity accommodates securities transactions in size and at low cost. When it fails the information value of market quotes is compromised, potentially triggering feedback loops, margin calls and fire sales. With shrinking market making capacity at banks, the fragility of liquidity in both developed and emerging markets has probably increased. The rise of larger and more pro-cyclical buy-side institutions seems to enhance this vulnerability.

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How EM bond funds exaggerate market volatility

August 31, 2015

A new BIS paper provides evidence that since 2013 fluctuations in EM fund flows and EM bond prices have reinforced each other. Both redemptions and discretionary sales of fund managers have been pro-cyclical. In liquidity-constrained markets this behavior is prone to transmitting shocks and amplifying crises.

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Mutual funds and market dislocations

April 26, 2015

The IMF Financial Stability Report highlights two systemic weaknesses of plain-vanilla mutual funds: incentives for end investors to rush for the exit in distress and incentives for portfolio managers to herd. With deteriorating market liquidity and greater systemic importance of collateral values, these weaknesses become a greater concern for the global financial system.

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Predicting equity market corrections

February 27, 2015

Assessing the risk of equity market “crashes”, academic work has focused on price-earnings ratios and bond-stock earnings yield differentials. A recent paper by Lleo and Ziemba provides theoretical reasoning and empirical support for these warning signs.

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Basics of market liquidity risk

January 11, 2015

Market liquidity measures the cost efficiency of trading. Liquidity risk refers to the probability that these costs surge when trading is required. Liquidity and liquidity risk are major factors in the long-term performance of trading strategies. The apparent inverse relation between liquidity and expected returns also offers obvious profit opportunities. There are various conceptual solutions for measuring market liquidity timely.

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Disaster risk and currency returns

November 1, 2014

A paper by Farhi and Gabaix explains how fear of global crisis leads to outperformance of risky versus less risky currencies. Carry trades have worked historically, because high risk premia conditioned both high interest rates and subsequent revaluation. As a practical conclusion, gaps between perceived risk (often based on historical variances and correlation) and actual fundamental risk (as indicated by fundamental macro factors) are key value generators in FX strategies.

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Volatility markets: a practitioner’s view

July 6, 2014

Christopher Cole argues that volatility markets are about trading both known and unknown risks. These risks require different pricing and cause different “crashes”. Most portfolio managers either hold implicit short volatility or long volatility positions. After the great financial crisis, monetary policy has suppressed volatility, but steep volatility curves are indicating a “bull market in fear”.

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How human stress increases financial crisis risk

June 15, 2014

John Coates gives a neuroscience view on how human “stress response” can aggravate financial crises. Rising market volatility causes a bodily response in form of a sustained elevation of the stress hormone cortisol in traders and investors. This raises risk aversion and may contribute to institutional paralysis. Central banks’ policies aimed at keeping markets calm in normal times may weaken traders’ immune system.

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Macrosynergy is a London based macroeconomic research and technology company whose founders have developed and employed macro quantamental investment strategies in liquid, tradable asset classes, across many markets and for a variety of different factors to generate competitive, uncorrelated investment returns for institutional investors for two decades. Our quantitative-fundamental (quantamental) computing system tracks a broad range of real-time macroeconomic trends in developed and emerging countries, transforming them into macro systematic quantamental investment strategies. In June 2020 Macrosynergy and J.P. Morgan started a collaboration to scale the quantamental system and to popularize tradable economics across financial markets.

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