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Market declines and volatility increase risks to global financial conditions

Publication Date: 25 Jan 2019 - By Gaurav Sharma (Editor ReachX) By Gaurav Sharma (Editor ReachX)
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Equity markets saw steep sell-offs at the end of 2018 after escalating trade tensions between the US and China and rising uncertainty over Brexit weighed on investor sentiment, stoking financial market volatility and widening global credit spreads. 

In the wake of the developments, market conditions have tightened recently but systemic risks as a whole still remain “moderate”, according to Moody’s

In a report for its clients, the rating agency said global private bond issuance in 2018 only declined modestly from the peak in 2017 and was comparable to strong issuance levels in 2014 and 2015, despite high-yield issuance falling globally during the course of last year.

The report notes how the S&P 500 ended 6.2% lower than at the start of the year, while the Eurostoxx, FTSE 100 and Nikkei 225 also declined by 14.7%, 12.5% and 12.1% respectively over 2018 in local currency terms. In 2018, market implied and realized volatility in both the equity and bond markets picked up from decade-long lows a year before.

Colin Ellis, Moody's Chief Credit Officer for EMEA and co-author of the report, said rising uncertainty typically corresponds with increasing risk premia and global credit spreads generally increased during 2018. 

“In particular, rising political risk in Europe contributed to higher corporate credit spreads in Europe than in the US in the second half of the year. And while high-yield credit spreads in Europe remain below long-term averages, they are now above the median since 2012.”

High-yield bond issuance showed signs of weakening in the second half of 2018. While the issuance of investment-grade corporate bonds is also declining, the magnitude of the fall is more severe in high-yield corporate bonds. 

In 2018, asset prices in emerging markets (EM) came under pressure, although that has abated recently. Part of that may reflect the US monetary policy normalisation.

Despite the volatility seen during 2018, recent adjustments to emerging market exchange rates do not appear particularly unusual compared with past episodes of US monetary tightening, Moody’s said.

Outflows from EM bond markets rose in 2018, partly unwinding the previous significant inflows to EMs, when investors were searching for higher yields in a low interest environment.

“As liquidity tightens, investors are becoming more selective, leading to increased differentiation across emerging markets. This is credit positive for emerging market issuers, because such selectivity should limit contagion in the event of stress in a particular market.”

Banks are better prepared than three years ago to withstand a downturn or a period of more severe stress. In part, this reflects regulators requiring banks to increase their capital levels, Moody’s concluded.

Disclosure:

I have no positions in any of the securities referenced in the contribution

I do not use any non-public, material information in this contribution

To the best of my knowledge, the views expressed in this contribution comply with UK law

I agree with the terms and conditions of ReachX

This contribution is for informational purpose and does not constitute investment advice nor is it an offer to sell or buy, nor is it a recommendation for any security.

Gaurav Sharma Editor ReachX

 

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