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Market Risk Monitor – October 2017

Edward Fishwick |Oct 23, 2017

The latest issue of the Market Risk Monitor assesses how the risk environment has changed over the third quarter of 2017 and whether investors should worry about hidden risks.


Two narratives

The low-risk environment we have witnessed for an extended period has continued over the quarter with virtually all our risk metrics indicating an absence of major risk. This risk-on market regime across all public markets reflects a supportive macro-economic backdrop with an increasingly synchronized global economic upturn.

However, it is important to acknowledge the existence of a strong counter-narrative to the ‘measured risk is low’ argument, relating to differences between public and private markets and the potential build-up of risk in areas such as private loans and high yield. This argument asserts that low interest rates in conjunction with the resulting search for yield create the preconditions for an excessive build-up of risk. While this risk is not visible in the volatility of public assets and thus does not manifest itself in the behavior of asset prices, it nonetheless represents an important issue. The concern is that while markets may appear benign, and indeed the returns to risk assets may be positive for extended periods, there may come a point at which this hidden build-up of risk induces a significant correction in the price of risk assets.

Market Risk Monitor

Ed Fishwick and Tara Sharma from the Risk & Quantitative Analysis Team discuss the current risk conditions and the implications for investors.

What are the implications?

The counter-narrative, outlined above, has received increasing prominence in recent months and we believe it to be a major consideration in the calibration of portfolio risk. That said, while it is undoubtedly true that there have been significant flows into private markets and that risk has increased in some of those segments, it remains, in our view, an open question whether this represents a serious, systemic risk.

Overall, our risk metrics still suggest that markets enjoy benign risk conditions in which risk taking appear largely supported. Nevertheless, we note those counterarguments, and observe that close attention to economic variables such as interest rates and inflation may well be important in respect to ongoing decisions about portfolio risk taking.

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